Monolithic Power Systems, Inc.: Form 10-Q for the period ended Jun 30, 2024

This Quarterly Report on Form 10-Q contains forward-looking statements within the meaning of Section 27A of the Securities Act of 1933, as amended, and Section 21E of the Securities Exchange Act of 1934, as amended, that have been made pursuant to and in reliance on the provisions of the Private Securities Litigation Reform Act of 1995. These statements include, among others, statements concerning:

• the above-average industry growth of product and market areas that we have targeted;
• our plan to increase our revenue through the introduction of new products within our existing product families as well as in new product categories and families;
• our mission statement to reduce energy and material consumption to improve all aspects of quality of life and create a sustainable future;
• the effects of macroeconomic factors, including the global economic downturn, the Russia-Ukraine conflict and the Middle East conflict on the semiconductor industry and our business;
• the effect that liquidity of our investments has on our capital resources;
• the continuing application of our products in the enterprise data, storage and computing, automotive, communications, consumer and industrial markets;
• estimates of our future liquidity requirements;
• the cyclical nature of the semiconductor industry;
• our belief that we may incur significant legal expenses that vary with the level of activity in each of our current or future legal proceedings;
• expectations regarding protection of our proprietary technology;
• business outlook for the remainder of 2024 and beyond;
• the factors that we believe will impact our business, operations and financial condition, as well as our ability to achieve revenue growth;
• the expected percentage of our total revenue from various end markets;
• our ability to identify, acquire and integrate companies, businesses and products, and achieve the anticipated benefits from such acquisitions and integrations;
• the expected impact of various U.S. and international tax laws and regulations on our income tax provision, financial position and cash flows;
• our plan to repatriate cash from our subsidiary in Bermuda;
• our intention and ability to continue our stock repurchase program and pay cash dividends and dividend equivalents;
• the factors that differentiate us from our competitors; and
• our ability to adequately remediate our material weakness.

In some cases, words such as “would,” “could,” “may,” “should,” “predict,” “potential,” “targets,” “continue,” “anticipate,” “expect,” “intend,” “plan,” “believe,” “seek,” “estimate,” “project,” “forecast,” “will,” the negative of these terms or other variations of such terms and similar expressions relating to the future identify forward-looking statements. All forward-looking statements are based on our current outlook, expectations, estimates, projections, beliefs and plans or objectives about our business, our industry and the global economy, including our expectations regarding the potential impacts of macroeconomic factors, such as the global economic downturn, the Russia-Ukraine conflict and the Middle East conflict on the semiconductor industry and our business. These statements are not guarantees of future performance and are subject to significant risks and uncertainties. Actual events or results could differ materially and adversely from those expressed in any such forward-looking statements. Risks and uncertainties that could cause actual results to differ materially include those set forth throughout this Quarterly Report on Form 10-Q and in our Annual Report on Form 10-K including, in particular, in the sections entitled “Risk Factors.” Except as required by law, we disclaim any duty, and undertake no obligation, to update any forward-looking statements, whether as a result of new information relating to existing conditions, future events or otherwise or to release publicly the results of any future revisions we may make to forward-looking statements to reflect events or circumstances after the date hereof or to reflect the occurrence of unanticipated events. Readers are cautioned not to place undue reliance on such statements, which speak only as of the date of this Quarterly Report on Form 10-Q and entail significant risks. Readers should carefully review future reports and documents that we file from time to time with the SEC, such as our Annual Reports on Form 10-K, Quarterly Reports on Form 10-Q and any Current Reports on Form 8-K.

Overview

We are a fabless global company that provides high-performance, semiconductor-based power electronics solutions. MPS’s mission is to reduce energy and material consumption to improve all aspects of quality of life and create a sustainable future. Founded in 1997 by our CEO Michael Hsing, MPS has three core strengths: deep system-level knowledge, strong semiconductor design expertise, and innovative proprietary technologies in the areas of semiconductor processes, system integration, and packaging. These combined advantages are designed to enable MPS to deliver reliable, compact, and monolithic solutions that are highly energy-efficient, cost-effective, and environmentally responsible while providing a consistent return on investment to our stockholders.

We operate in the cyclical semiconductor industry. We are subject to industry downturns, but we have targeted product and market areas that we believe have the ability to offer above average industry performance over the long term. Historically, our revenue has generally been higher in the second half of the year than in the first half although various factors, such as market conditions and the timing of key product introductions, could impact this trend.

We work with third parties to manufacture and assemble our ICs. This has enabled us to limit our capital expenditures and fixed costs, while focusing our engineering and design resources on our core strengths.

Following the introduction of a product, our sales cycle generally takes a number of quarters after we receive an initial customer order for a new product to ramp up. Typical supply chain lead times for orders are generally 16 to 26 weeks. These factors, combined with the fact that our customers can cancel or reschedule orders without significant penalty to the customer, make the forecasting of our orders, revenue and expenses difficult.

We derive most of our revenue from sales through distribution arrangements and direct sales to customers in Asia, where our products are incorporated into end-user products. Our revenue from direct and indirect sales to customers in Asia was 93% and 85% of our total revenue for the three months ended June 30, 2024 and 2023, respectively, and 93% and 84% of our total revenue for the six months ended June 30, 2024 and 2023, respectively. Our revenue from indirect sales to one customer, which primarily comprised power management solutions for AI applications, was 21% and 5% of our total revenue for the three months ended June 30, 2024 and 2023, respectively, and 19% and 4% of our total revenue for the six months ended June 30, 2024 and 2023, respectively.

We derive a majority of our revenue from the sales of our DC to DC converter products which serve the enterprise data, storage and computing, automotive, communications, consumer and industrial markets. We believe our ability to achieve revenue growth will depend, in part, on our ability to develop new products, enter new market segments, gain market share, manage litigation risk, diversify our customer base and continue to secure manufacturing capacity.

Macroeconomic Conditions and Regulations

The semiconductor industry has historically been impacted by various macro-economic challenges including fluctuations in consumer spending, fluctuations in demand for semiconductors, rising inflation, increased interest rates, and fluctuations in currency rates. We remain cautious in light of continued challenging macroeconomic conditions and will continue to monitor the potential impact on our operations. The extent and duration of the direct and indirect impact of macroeconomic events on our business, results of operations and overall financial position remain uncertain and depend on future developments.

We closely monitor changes to export control laws, trade regulations and other trade requirements. To date, no restrictions have had a material impact on our revenue and operations. We will continue to monitor any changes to export control laws, trade regulations and other trade requirements and are committed to complying with all applicable trade laws, regulations and other requirements.

Critical Accounting Policies and Estimates

In preparing our condensed consolidated financial statements in accordance with GAAP, we are required to make estimates, assumptions and judgments that affect the amounts reported in our financial statements and the accompanying disclosures. Estimates and judgments used in the preparation of our condensed consolidated financial statements are, by their nature, uncertain and unpredictable, and depend upon, among other things, many factors outside of our control, including demand for our products, economic conditions and other current and future events, such as macroeconomic factors, including the impact of the global economic downturn, Russia-Ukraine conflict and the Middle East conflict. Actual results could differ from these estimates and assumptions, and any such differences may be material to our condensed consolidated financial statements.

Results of Operations

The table below sets forth the data on the Condensed Consolidated Statements of Operations as a percentage of revenue:

(In thousands, except percentages)

Revenue

The following table summarizes our revenue by end market:

(In thousands, except percentages)

Revenue for the three months ended June 30, 2024 was $507.4 million, an increase of $66.3 million, or 15.0%, from $441.1 million for the three months ended June 30, 2023. The increase in revenue was primarily due to higher average selling prices resulting primarily from product mix.

For the three months ended June 30, 2024, revenue from the enterprise data market increased $139.2 million, or 290.2%, from the same period in 2023. This increase was primarily due to higher sales of our power management solutions for AI applications. Revenue from the storage and computing market for the three months ended June 30, 2024 decreased $9.6 million, or 7.7%, from the same period in 2023. This decrease was primarily due to lower sales of storage and graphic card applications. Second quarter 2024 automotive revenue decreased $17.2 million, or 16.5%, from the same period in 2023. This decrease was primarily due to lower sales of applications supporting body electronics, digital cockpits and infotainment. Revenue from the communications market decreased $5.7 million, or 11.6%, from the same period in 2023. This decrease was primarily driven by lower demand for infrastructure related products. Second quarter 2024 revenue from the consumer market decreased $23.0 million, or 35.2%, from the same period in 2023. This decrease was primarily driven by lower sales of products for gaming and home appliances. Revenue from the industrial market decreased $17.5 million, or 35.1%, from the same period in 2023. This decrease was mainly driven by lower sales of products related to industrial meter, power source and security applications.

Revenue for the six months ended June 30, 2024 was $965.3 million, an increase of $73.1 million, or 8.2%, from $892.2 million for the six months ended June 30, 2023. The increase in revenue was primarily due to higher average selling prices resulting primarily from product mix, which was partially offset by lower shipment volume.

For the six months ended June 30, 2024, revenue from the enterprise data market increased $241.8 million, or 254.1%, from the same period in 2023. This increase was primarily due to higher sales of our power management solutions for AI applications. First half 2024 revenue from the storage and computing market decreased $23.3 million, or 9.5%, from the same period in 2023. This decrease was primarily due to lower sales of storage and graphic card applications, partially offset by higher sales of commercial notebooks. Revenue from the automotive market for the first six months of 2024 decreased $35.5 million, or 16.9%, from the same period in 2023. This decrease was primarily due to lower sales of applications supporting digital cockpits, body electronics and USB connectors. Revenue from the communications market decreased $27.0 million, or 23.0%, from the same period in 2023. This decrease was primarily driven by lower demand for infrastructure related products. For the six months ended June 30, 2024, consumer revenue decreased $48.2 million, or 37.5%, from the same period in 2023. This decrease was broad-based and primarily driven by lower sales of products for gaming and home appliances. Revenue from the industrial market decreased $34.7 million, or 35.7%, from the same period in 2023. This decrease was mainly driven by lower sales of products related to industrial meter, security and power source applications.

Cost of Revenue and Gross Margin

Cost of revenue primarily consists of costs incurred to manufacture, assemble and test our products, as well as warranty costs, inventory-related and other overhead costs, and stock-based compensation expenses.

(In thousands, except percentages)

Cost of revenue was $226.9 million, or 44.7% of revenue, for the three months ended June 30, 2024, and $193.5 million, or 43.9% of revenue, for the three months ended June 30, 2023. The $33.4 million increase in cost of revenue was primarily driven by increases in the average costs due to product mix.

Gross margin was 55.3% for the three months ended June 30, 2024, compared with 56.1% for the three months ended June 30, 2023. The decrease in gross margin was mainly driven by an increase in inventory write-downs and warranty expenses as a percentage of revenue, partially offset by lower manufacturing overhead costs.

Cost of revenue was $432.3 million, or 44.8% of revenue, for the six months ended June 30, 2024, and $385.7 million, or 43.2% of revenue, for the six months ended June 30, 2023. The $46.6 million increase in cost of revenue was primarily driven by increases in the average costs due to product mix, higher inventory write-downs and higher warranty expenses, partially offset by lower shipment volume.

Gross margin was 55.2% for the six months ended June 30, 2024, compared with 56.8% for the six months ended June 30, 2023. The decrease in gross margin was mainly driven by an increase in inventory write-downs and warranty expenses as a percentage of revenue, partially offset by lower manufacturing overhead costs.

Research and Development

R&D expenses primarily consist of cash compensation and benefits, stock-based compensation and deferred compensation for design and product engineers, expenses related to new product development and supplies, and facility costs.

(In thousands, except percentages)

R&D expenses were $77.9 million, or 15.3% of revenue, for the three months ended June 30, 2024, and $63.7 million, or 14.4% of revenue, for the three months ended June 30, 2023. The $14.3 million increase in R&D expenses was primarily due to a $9.0 million increase in cash compensation and benefits and a $2.4 million increase in stock-based compensation expenses.

R&D expenses were $153.9 million, or 15.9% of revenue, for the six months ended June 30, 2024, and $127.4 million, or 14.3% of revenue, for the six months ended June 30, 2023. The $26.5 million increase in R&D expenses was primarily due to a $15.3 million increase in cash compensation and benefits, a $6.0 million increase in stock-based compensation expenses and related payroll taxes and a $1.4 million increase in professional services.

Selling, General and Administrative

SG&A expenses primarily include cash compensation and benefits, stock-based compensation and deferred compensation for sales, marketing and administrative personnel, sales commissions, travel expenses, facilities costs, third party service fees and litigation expenses.

(In thousands, except percentages)

SG&A expenses were $86.1 million, or 17.0% of revenue, for the three months ended June 30, 2024, and $71.7 million, or 16.2% of revenue, for the three months ended June 30, 2023. The $14.4 million increase in SG&A expenses was primarily driven by an $11.5 million increase in stock-based compensation expenses and a $1.8 million increase in sales commissions.

SG&A expenses were $167.1 million, or 17.3% of revenue, for the six months ended June 30, 2024, and $142.5 million, or 16.0% of revenue, for the six months ended June 30, 2023. The $24.6 million increase in SG&A expenses was primarily driven by an $18.3 million increase in stock-based compensation expenses, a $2.0 million increase in professional services and a $1.4 million increase in cash compensation and benefits.

Other Income, Net

Other income, net, was $7.5 million for the three months ended June 30, 2024, compared with $6.5 million for the three months ended June 30, 2023. The increase in other income was primarily due to an increase in net interest income, partially offset by a decrease in income related to changes in the value of deferred compensation plan investments.

Other income, net, was $17.1 million for the six months ended June 30, 2024, compared with $11.8 million for the six months ended June 30, 2023. The increase in other income was primarily due to an increase of $12.9 million in net interest income, partially offset by an increase in charitable contributions.

Income Tax Expense

The income tax provision for interim periods is generally determined using an estimate of our annual effective tax rate and adjusted for discrete items, if any, in the relevant period. Each quarter the estimate of the annual effective tax rate is updated, and if our estimated tax rate changes, a cumulative adjustment is made.

The income tax expense for the three months ended June 30, 2024 was $23.7 million, or 19.1% of pre-tax income. The income tax expense for the six months ended June 30, 2024 was $36.2 million, or 15.8% of pre-tax income. The effective tax rates were lower than the federal statutory rate of 21% primarily due to foreign income from our subsidiaries in Bermuda and China being taxed at lower statutory tax rates, and excess tax benefits from stock-based compensation. The decrease in the effective tax rates relative to the federal statutory rate was partially offset by the inclusion of the GILTI tax.

The income tax expense for the three months ended June 30, 2023 was $19.4 million, or 16.3% of pre-tax income. The income tax expense for the six months ended June 30, 2023 was $39.1 million, or 15.8% of pre-tax income. The effective tax rates were lower than the federal statutory rate of 21% primarily due to foreign income from our subsidiaries in Bermuda and China being taxed at lower statutory tax rates, and excess tax benefits from stock-based compensation. The decrease in the effective tax rates relative to the federal statutory rate was partially offset by the inclusion of the GILTI tax.

The Organization for Economic Co-operation and Development enacted model rules for a new global minimum tax framework, also known as Pillar Two, and certain governments globally have enacted, or are in the process of enacting, legislation considering these model rules. These rules did not have a material impact on our taxes for the three and six months ended June 30, 2024.

In December 2023, the Bermuda CIT Act was enacted and signed into law. See Note 14 for further details.

Liquidity and Capital Resources

(In thousands, except percentages)

As of June 30, 2024, we had cash and cash equivalents of $550.5 million and short-term investments of $756.8 million, compared with cash and cash equivalents of $527.8 million and short-term investments of $580.6 million as of December 31, 2023. As of June 30, 2024, $335.3 million of cash and cash equivalents and $715.1 million of short-term investments were held by our international subsidiaries. We have repatriated and may continue to repatriate cash from our Bermuda subsidiary to fund our expenditures in future periods. We anticipate that earnings from other foreign subsidiaries will continue to be indefinitely reinvested.

Summary of Cash Flows

The following table summarizes our cash flow activities:

(In thousands)

For the six months ended June 30, 2024, the $80.0 million increase in cash provided by operating activities compared to the same period in 2023 was primarily due to increased accounts receivable collections and the collection of $50.0 million of other receivables related to a long-term wafer supply agreement, partially offset by increased inventory purchases. This increase was also affected by changes in other working capital.

For the six months ended June 30, 2024, the $269.6 million increase in cash used in investing activities compared to the same period in 2023 was primarily due to an increase of $378.2 million in purchases of investments, partially offset by an increase of $188.3 million in sales of investments.

For the six months ended June 30, 2024, the $41.4 million increase in cash used in financing activities compared to the same period in 2023 was primarily due to an increase of $31.7 million in dividend and dividend equivalent payments.

Cash Requirements

Although consequences of economic uncertainty and macroeconomic conditions and other factors could adversely affect our liquidity and capital resources in the future, and our cash requirements may fluctuate based on the timing and extent of many factors such as those discussed above, we believe that our balances of cash, cash equivalents and short-term investments of $1,307.2 million as of June 30, 2024, along with cash generated by ongoing operations, will be sufficient to satisfy our liquidity requirements for the next 12 months and beyond.

Our material cash requirements include the following contractual and other obligations:

Purchase Obligations

Purchase obligations represent commitments to our suppliers and other parties requiring the purchases of goods or services. Our purchase obligations primarily consist of wafer and other inventory purchases, assembly and other manufacturing services, construction of manufacturing and R&D facilities, purchases of production and other equipment, and license arrangements.

In May 2022, we entered into a long-term supply agreement in order to secure manufacturing production capacity for silicon wafers over a four-year period. As of June 30, 2024, we had remaining prepayments under this agreement of $120.0 million, of which $60.0 million was classified as short-term.

As of June 30, 2024, total estimated future unconditional purchase commitments to all suppliers and other parties, net of the $120.0 million prepayment, were $571.6 million, of which $394.1 million was classified as short-term.

Transition Tax Liability

The transition tax liability represents the one-time, mandatory deemed repatriation tax imposed on previously deferred foreign earnings under the U.S. Tax Cuts and Jobs Act enacted in December 2017 (the “2017 Tax Act”). As permitted by the 2017 Tax Act, we have elected to pay the tax liability in installments on an interest-free basis through 2025. As of June 30, 2024, the remaining liability totaled $6.2 million, all of which was classified as short-term.

Operating Leases

Operating lease obligations represent the undiscounted remaining lease payments primarily for our leased facilities and equipment. As of June 30, 2024, these obligations totaled $15.5 million, of which $2.4 million was classified as short-term.

Capital Return to Stockholders

In October 2023, our Board of Directors approved a new stock repurchase program authorizing us to repurchase up to $640.0 million in the aggregate of our common stock through October 29, 2026. Shares are retired upon repurchase. We repurchased 6,300 and 12,400 shares of our common stock for an aggregate purchase price of $4.5 million and $8.6 million during the three and six months ended June 30, 2024, respectively. As of June 30, 2024, $627.6 million remained available for future repurchases under the program.

We currently have a dividend program approved by our Board of Directors, pursuant to which we intend to pay quarterly cash dividends on our common stock. Based on our historical practice, stockholders of record as of the last business day of the quarter are entitled to receive the quarterly cash dividends when and if declared by the Board of Directors, which are payable to the stockholders in the following month. As of June 30, 2024, accrued dividends totaled $60.9 million. The declaration of any future cash dividends is at the discretion of our Board of Directors and will depend on, among other things, our financial condition, results of operations, capital requirements, business conditions and other factors that our Board of Directors may deem relevant, as well as a determination that cash dividends are in the best interests of our stockholders.

Other Long-Term Obligations

Other long-term obligations primarily include payments for deferred compensation plan liabilities and accrued dividend equivalents. As of June 30, 2024, these obligations totaled $83.6 million.

For a discussion of market risks, refer to Item 7A, “Quantitative and Qualitative Disclosures about Market Risk” in our Annual Report on Form 10-K for the year ended December 31, 2023. During the three and six months ended June 30, 2024, there were no material changes or developments that would have materially altered, or were reasonably likely to materially alter, the market risk assessment performed as of December 31, 2023.

Evaluation of Disclosure Controls and Procedures

Our management, with the participation of our Chief Executive Officer and Chief Financial Officer, evaluated the effectiveness of our disclosure controls and procedures pursuant to Rule 13a-15(e) and Rule 15d-15(e) under the Securities Exchange Act of 1934 as of the end of the period covered by this Quarterly Report on Form 10-Q.

Based on this evaluation, and due to the finding of the material weakness described below, our Chief Executive Officer and Chief Financial Officer concluded that, as of June 30, 2024, our disclosure controls and procedures were not effective to provide reasonable assurance that information we are required to disclose in reports that we file or submit under the Exchange Act is recorded, processed, summarized, and reported within the time periods specified in the SEC’s rules and forms.

As previously reported in our Annual Report on Form 10-K for the year ended December 31, 2023, during the year-end financial reporting process of fiscal year 2023, a material weakness was identified in internal control over financial reporting within the Company’s demand forecast process regarding excess and obsolete inventory. The material weakness resulted from ineffective design of the controls related to management’s review and documentation of the Company’s inventory demand information and other assumptions used to determine the inventory carrying value adjustments necessary to record such quantities at the lower of their cost or net realizable value.

A material weakness is a deficiency, or a combination of deficiencies in internal control over financial reporting, such that there is a reasonable possibility that a material misstatement of the Company’s annual or interim consolidated financial statements will not be prevented or detected on a timely basis. This material weakness did not result in a misstatement to the audited consolidated financial statements for the year ended December 31, 2023.

Notwithstanding the material weakness in internal control over financial reporting described above, management believes and has concluded that the condensed consolidated financial statements included in this Quarterly Report on Form 10-Q fairly present, in all material respects, our financial position, results of operations and cash flows for the periods presented in conformity with GAAP.

Ongoing Remediation of Previously Identified Material Weakness

With respect to the material weakness described above, management, under the oversight of the Audit Committee, has implemented measures designed to ensure that control deficiencies contributing to the material weakness are remediated, such that these controls are designed, implemented, and operating effectively. However, the weakness will not be considered remediated until the applicable controls operate for a sufficient period of time and management has concluded, through testing, that these controls are operating effectively. The Company will monitor the effectiveness of its remediation plan and refine its remediation plan as appropriate.

Changes in Internal Control over Financial Reporting

As described above, we are taking steps to remediate the material weakness in our internal control over financial reporting. Other than in connection with the remediation process described above, no change in our internal control over financial reporting (as defined in Rules 13a-15(f) and 15d-15(f) under the Exchange Act) occurred during the quarter ended June 30, 2024 that has materially affected, or is reasonably likely to materially affect, our internal control over financial reporting.

Limitations on Effectiveness of Controls and Procedures

In designing and evaluating the disclosure controls and procedures, management recognizes that any set of controls and procedures, no matter how well designed and operated, can provide only reasonable assurance of achieving the desired control objectives. In addition, the design of disclosure controls and procedures must reflect the fact that there are resource constraints, and that management is required to apply its judgment in evaluating the benefits of possible controls and procedures relative to their costs.

The Company’s business, reputation, results of operations, financial condition and stock price can be affected by a number of factors, whether currently known or unknown, including those described in Part I, Item 1A of the Annual Report on Form 10-K for the year ended December 31, 2023 under the heading “Risk Factors.” When any one or more of these risks materialize from time to time, the Company’s business, reputation, results of operations, financial condition and stock price can be materially and adversely affected. There have been no material changes to the Company’s risk factors since the filing of the Annual Report on Form 10-K for the year ended December 31, 2023.