Alphawave IP Group (AWE): Huge Growth Potential Or Just Too Risky?

In this recent PIWorld interview, Paul Jourdan of Amati Global Investors mentions a new investment they have made in Alphawave IP Group (at around 48mins):

Alphawave is new to the market (its IPO was in May). At first glance it looks quite interesting and would probably have passed Maynard’s January IPO filter:

  • Founder Led - The three experienced co-founders all hold leadership positions, one of which is the CEO. Post IPO the co-founders held approximately 14% each of the total share capital.
  • Profitable - Revenue of $44M with a 54% operating margin in 2020.
  • Low capex compared to traditional semiconductor businesses as there are no manufacturing or assembly costs.

Perhaps worth some further investigation? Here’s a few notes I made from reading through the IPO prospectus:

Business Overview
Alphawave designs and licenses intellectual property to semiconductor and electronic equipment companies. The intellectual property consists of pre-designed blocks of logic that can be integrated with other blocks in the production of an overall microchip design. Alphawave specialises in IP blocks that provide wired connectivity.

The Group is an approved provider for the leading semiconductor manufacturers Samsung and Taiwan Semiconductor Manufacturing Company. These are essential relationships as Alphawave’s clients will need to send their chip designs (incorporating Alphawave’s IP) to companies such as Samsung and TSMC for manufacture.

The growth drivers in the target end markets are very similar to those targeted by another recent IPO that has been discussed in this forum and include:

  • Proliferation of cloud services and hyperscale data centres
  • Development of advanced wireless technologies, such as 5G
  • Proliferation of “Internet of Things” devices.

The Group also has some big ambitions. From the prospectus:

As ARM conquered the mobile device market with its processor technology, Alphawave IP seeks to conquer the global infrastructure markets with its wired connectivity solutions

Risks
Let’s start with a wealth warning. This is a recent IPO which presents plenty of risks in itself but I think it’s also fair to say that this is the type of company that Terry Smith might avoid. Here are some words of wisdom extracted from the Fundsmith and Smithson owner’s manuals:

Fundsmith:
“….we do not invest in industries which are subject to rapid technological innovation. Innovation is often sought by investors but does not always produce lasting value for them. Developments such as […] microchips and the internet have transformed industries and people’s lives. They have created value for some investors, but a lot of capital gets destroyed for others…”

Smithson:
“…we are wary of industries which innovate very quickly, such as technology hardware. Often companies in these types of industries are ‘running to stand still’ i.e. they are forced to spend high amounts on research just to keep up with competition, rather than being able to extend their lead. They may also be susceptible to a competitor coming up with a better product which could make their original obsolete. This is what we refer to as a ‘catastrophic downside scenario’, and one which we seek to avoid at all costs.”

The IPO prospectus also highlights these risks:

The Group is engaged in an intensely competitive segment of the global semiconductor industry. Its competitive landscape is characterised by rapid technological change in product design and manufacturing, price declines and customers that make decisions based on a mix of factors of varying importance.

Note the group is not only competing against other third party suppliers but also against internal engineering teams at large semiconductor suppliers.

Still here? Let’s see if we can satiate that risk appetite:

Alphawave has a limited operating history (formed in 2017) and has significant customer concentration risk with only 14 clients as of March 2021. The Group’s largest customer accounted for 20% of revenue in 2020, and almost 50% of all bookings to date have come from the top 3 customers.

On sales, the prospectus states:

The sales cycle for the Group’s IP solutions is lengthy and unpredictable, which makes forecasting customer orders and revenue difficult.
….often lasting six to nine months […] , including while the customer conducts technical evaluations of the Group’s technology [….] Even once an agreement is reached, there is typically a lengthy period, in some cases multiple years, before the customer’s product incorporating the Group’s design reaches market production.

Sales wins do however appear to be reasonably sticky. The prospectus states that across its customer base, approximately 50 per cent of design wins since its founding are from repeat customers.

Lengthy and unpredictable sales cycles, competition with internal engineering teams, sticky sales wins. I’m sure I’ve seen those characteristics somewhere before.

Opportunities
The Group’s key product to date has been a novel serialiser/deserialiser (or SerDes), which the prospectus states is a:

critical component of serial wired connectivity IP design. A SerDes is used in integrated circuits as an interface to other chips by converting parallel streams of data, which are used within integrated circuits, to serial streams [….] every integrated circuit that needs fast and reliable external connectivity requires a SerDes.

The big market opportunity for the future though appears to be an industry wide transition from larger integrated circuits to smaller modules called Chiplets. The Group is expecting to see massive growth in this market over the next few years:

The overall chiplet market for all semiconductors, including processors and connectivity, is expected to grow from approximately USD $3 billion in 2020 to approximately USD $50 billion in 2024, representing a CAGR of 98 per cent. […] Connectivity chiplets are expected to represent a portion of this market.

And they are expecting an increase in their addressable market on a similar scale:

The Group estimates its total addressable market opportunity for its current products to be USD $500 million in 2020, […] By 2024 the addressable market for the Group’s future products is forecast to exceed USD $50 billion.

Note that this huge increase in their addressable market relies on Alphawave being able to successfully produce those future products. The Group’s strategy to achieve this is to leverage their customer and manufacturing partner relationships to gain enhanced visibility of future product directions enabling them to develop proprietary leading edge technology that can be embedded within those products.

Potential Investment Or One To Avoid?
It looks like the market is having difficulty deciding. The Group is currently reporting very strong growth (although the presentation of the financial history in the prospectus is less than ideal - it spans a change in reporting date so that the financial statements cannot be directly compared. Earnings per share on the financial statements also looks odd - presented in dollars not cents and using operating profit as the numerator). The share price has been on a rollercoaster since the IPO, initially dropping around 25% before staging a recovery and then dropping sharply again in the last few weeks. It is now back below its IPO price.

Is this a potentially high reward investment opportunity for those with a high risk tolerance or is it a stock (as the Smithson manual puts it), with a ‘catastrophic downside scenario’, to avoid at all costs?

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Hi MIA1,

Many thanks for the great post. Alphawave is new to me.

I can’t say I really understand the technology, but I get the general drift of the potential ‘moat’ here. What I did not appreciate was the size of this business. I had imagined it was an AIM tiddler, but it’s on the main market with a c£2.3b market cap at 339p. That 54% margin in fact produced a $24m profit from revenue of $44m. Flotation document is here.

This is the CEO’s bio:

Tony Pialis co-founded Alphawave IP Inc. in 2017 and has since served as its President and Chief Executive Officer. Tony has extensive experience as an entrepreneur in the semiconductor industry, having co-founded three semiconductor IP companies, including Snowbush Microelectronics Inc , which was sold in 2007 to Gennum/Semtech and is currently part of Rambus. He also founded V Semiconductor Inc . where he served as President and CEO, and which was acquired by Intel Corporation in 2012.

Tony served as Vice President of Analog and Mixed-Signal IP at Intel Corporation between 2012 and 2017. During his tenure at Intel, Tony and his team won the prestigious Intel Achievement Award for successfully delivering next generation Ethernet and PCIe SerDes solutions on Intel’s 22nm and 14nm process technologies.

As Paul Jourdan noted, the CEO has a record of creating and then selling businesses. AWE’s two other co-founders were also involved with V Semiconductor and Snowbush and are senior AWE managers.

This is the executive chairman’s bio:

"John has been a semiconductor executive since the late 1990s and has founded, funded, scaled and led multiple semiconductor businesses, driving billions of dollars in value for shareholders . He has more than 24 years of experience as an investor and senior executive, including considerable experience in chairing boards. He previously served as Founder, Chairman and Chief Executive Officer of Achronix Semiconductor Corporation and was also a Founder and Managing Partner of Holt Brothers Capital LLC where he managed a portfolio of investments in semiconductors, hardware, robotics, renewables and real estate. John started his career in the late 1980s at NASA Goddard Space Flight Center, where he worked as a design engineer focusing on optics and electronics for remote sensing and LiDAR applications ."

So the CVs stack up. The lead execs are mid-40s, too, so no obvious succession/retirement issues at present. I like how the founders did not require external funding prior to flotation:

After the Group was founded in 2017, Alphawave IP brought together the management team and scaled quickly while securing lead customers for the Group’s first 112G silicon IP in TSMC 7nm, leading to profitability in 2018 off the back of two design wins utilising this technology. The licensing contracts with these early customers, combined with paid in capital by the founders, funded the Company to profitability without seeking any other external capital sources.

AWE has been dependent on initial licensing income:

The image above suggests licensing income is significant during years 1 and 2 of the customer arrangement, then disappears to be replaced by smaller maintenance and royalty income. I worry the group’s licensing income could prove to be lumpy and should a few licensing deals be postponed, i) royalties and other income sources may not make up the shortfall, and; ii) reported profits will reduce significantly.

This risk reminds me of Alfa Financial (ALFA), a software business that floated during 2017 and for that year declared revenue of £86m, adjusted profit of £41m and a 47% operating margin.

ALFA’s performance was buoyed by chunky implementation fees, which soon stalled and, two years later, revenue had reduced to £65m and reported profit was £13m. The shares now trade at 150p after floating at 400p and reaching 53p during March 2020. ALFA offered founder management and lots of other positive traits, but in hindsight the IPO was overpriced given the group’s revenue and income profile.

Maynard

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Hi Maynard,

Yes, potentially significant risk there. I did spot this line in the prospectus:

….the Group is transitioning its business model to target an increased share of recurring revenue. This strategy includes the introduction of a subscription model for silicon IP. Rather than purchasing multiple, pay-as-you-go licences in a single year, the Group can offer unlimited access to all, or a subset, of its silicon IP portfolio, for a flat annual “subscription” fee…

This appears to be the model that the company is pursuing in China. This week’s interims reported bookings of $196.1m which included $147.8m of bookings for recurring revenue subscription licences from Verisilicon (reseller agreement in China) and the new China Product Partnership (CPP). I note though that Alphawave are also committed to invest around $170m into the CPP over the next few years.

Revenues from these subscription agreements are expected to be recognised in H2 2021.
According to the report this now means that 48% of lifetime bookings are from recurring revenue subscription licenses.

This looks like a step in the right direction towards reducing the historical one-off license fee risk.

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Hi MIA,

This CPP deal has caught the attention of the FT, which ran a story this week about AWE and in turn thumped the shares:

AWE sharepad share price

The FT story is behind a paywall, but has been copy and pasted here:

The FT highlights a “curiously circular” arrangement:

"Let’s start with CPP first. Short for “China Product Partnership”, the group is transparently a related party, as it is a company formed between Alphawave and one of its own shareholders — the Beijing-based private equity firm Wise Road Capital.

The deal’s terms as outlined in the IPO prospectus and the interim results are curiously circular.

The CPP has a non-exclusive licence, worth $109m, to use Alphawave’s IP over a period of five years in the hope of establishing a “leading networking semiconductor vendor serving the Chinese market”. But Alphawave has also committed to invest $170m in the entity to fund its operations, with Wise Road contributing $230m."

The IPO prospectus says:

"The Framework Agreement

The Framework Agreement further sets out the parties’ obligations with respect to creation of the Product Partnership Company. Pursuant to the terms of the Framework Agreement, the parties have agreed to jointly invest up to USD $400 million in cash as the registered capital of the Product Partnership Company, of which up to USD $170 million will be contributed by Alphawave IP and up to USD $230 million will be contributed by Wise Road Capital…

The Subscription License Agreement

Under the SLA, Alphawave IP grants an affiliate of Wise Road Capital a non-exclusive, worldwide and royalty-bearing subscription licence to use and modify a pre-defined set of the Group’s IP cores as set out in the SLA (including all corrections and enhancements that are provided by Alphawave IP to any other customers during the Subscription Period, as defined below) (the “IP Cores”) for a period of five years (“Subscription Period”). The Product Partnership Company will become the licensee under the SLA once it is established.

The SLA provides for payment of a subscription fee and royalty fees by the Product Partnership Company under the SLA. The subscription fee of USD $109 million is payable over the Subscription Period as follows:

  • first year: USD $12 million payable 30 days after the establishment of the Product Partnership Company, and USD $12 million payable 30 days after the deliverables relating to the IP Cores have been made available to the Product Partnership Company;

  • second and third years: USD $24 million per year, payable quarterly; and

  • fourth and fifth years: USD $18.5 million per year, payable quarterly.

Any revenues from the sale of Product Partnership products incorporating any of the IP Cores will be subject to a 3 per cent. royalty payable to Alphawave IP."

The wording “Alphawave IP grants an affiliate of Wise Road Capital a… subscription licence” does not make exactly clear who is receiving/paying what under the SLA, but elsewhere the IPO prospectus does confirm:

As part of the Product Partnership, the Group and Wise Road Capital have also entered into the SLA. Under this agreement, the Group will license specified IP solutions, as set out in the SLA, to the Product Partnership on a non-exclusive, worldwide basis, for a five-year term, for a subscription fee of USD $109 million (payable in instalments over that period (as set out in paragraph 13.5.2 of Part XIX: “Additional Information”)…

So yes, as per the FT, over five years AWE will pay up to $170m into the Product Partnership (‘CPP’), and the Product Partnership will pay $109m back to AWE plus 3% of royalties on products sold.

I presume the prospective associated royalties plus c43% share of CPP earnings will in time make up the difference between the $109m licence income and $170m investment.

The FT also writes:

“The group’s chair and co-founder John Lofton Holt is also the chair and founder of another semiconductor company called Achronix. The privately held Californian business has been a major customer of Alphawave. In the 12 months to May 2019, 90 per cent of Alphawave’s $6.9m revenue came from “a company on which a director is the chair of the board”, according to its IPO prospectus.”

Here is the related-party note:

Related-party revenue of $6.243m was indeed 90% of 2019 revenue of $6.912m. But the proportion falls to 20% for December 2020.

And the FT highlights various close ties between AWE, directors, family members and customers:

“So Alphawave has a $54m multiyear contract, worth just under half its stated backlog at IPO, with a company that is run by a key shareholder and director’s brother-in-law.”

I don’t know whether the share price has over-reacted to the FT’s story.

AWE has responded:

"Alphawave IP signed a $54 million multi-year exclusive subscription reseller agreement with VeriSilicon in February 2021 prior to its IPO.

VeriSilicon is one of the largest and most well-known ASIC and silicon IP providers globally and is a key partner in helping to accelerate Alphawave IP’s go to market strategy. Alphawave IP has not recognised any revenues from that transaction to date. All related party transactions have been properly disclosed in our IPO prospectus and in our interim results which were released last week."

Not a straightforward situation!

Maynard

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Hi Maynard,

The latest market commentary note from Amati Global Investors UK Small Cap Team had this to say on the FT article:

We understand that the content of the article probably came from one of two hedge funds that were short and getting burnt by the publication of a strong set of results. Having examined the potential issues around related party transactions when we bought our holding a few weeks after the company’s IPO, we are satisfied that the insinuations in the article are wrong headed and that the market is now significantly under-estimating the potential of this cash generative business which makes 95% gross margins and saw revenue grow by 140% in its interim results.

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After initial indifference by the market to today’s trading update, the shares are currently up by over 10% in afternoon trading. This line happened to catch my eye:

Q4 2021 saw further diversification with the Company closing its first chiplet design wins. These wins […] closed ahead of when we expected to secure our first chiplet IP licensing deals.

This could be significant in terms of future growth, as I commented in my original post:

However, the update also said:

One of the customers is a repeat tier-one public company in North America and the other customer is WiseWave.

WiseWave is a related party that was formed out of the “China Product Partnership” or CPP, that is referred to in previous posts, and was one of the subjects of the FT article that triggered last year’s share price drop. The North America customer is undisclosed, but presumably isn’t Achronix (another subject of the FT article), which as far as I can tell remains private after abandoning an attempt to go public last year.

Still a lot of investor uncertainty surrounding this company.

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