Wafers are an absolutely vital part of the electronics value chain and represent a very low portion of the total amount spent on semiconductors (~2.5%).
SEMI’s management is not sitting idly by and waiting for price increases to raise their EBITDA margin. The company has taken a number of steps to reduce its costs and will continue to do so. The actions that SEMI has taken since its separation from SUNE has allowed EBITDA margins to expand from 6% in 2013 to 11% today despite declines in wafer pricing. The company believes that it can get margins up to 20% over the next two years with pricing remaining constant. This margin expansion is being driven by two things: 1) consolidation of SEMI’s wafer production facilities into low cost production areas. 2) Reduced prices paid for SEMI’s primary input polysilicon (polysilicon represented ~20% of SEMI’s COGS in 2013). Historically SEMI purchased its polysilicon from SUNE at prices as high as ~$60 kg. As part of SEMI’s separation SUNE agreed to sell polysilcon to SEMI at ~$35 and to reduce that price further over time. SEMI expects to pay ~$20 per kg of polysilicon by 2017. The reduction in the cost of SEMI’ polysilicon purchase cost from $60 to $20 will add a cumulative 10% to SEMI’s EBITDA margins.
The industry is relatively consolidated but there is the potential for more. SEMI’s management has expressed an interest in merging with Siltronic, the wafer manufacturing division of Wacker. Wacker, a
German chemical company sold a portion of Siltronic via an IPO earlier this summer. Wacker views Siltronic as a non-core asset and may be open to a sale of the asset to SEMI. A combined Siltronic / SEMI
company would have 30% market share, further consolidate the industry and put pricing power in the hands of SEMI’s management. Baupost also has a large stake in Siltronic.
SEMI’s management’s compensation is tied to SEMI’s EBITDA growth and a meaningful portion of their bonus is only attained when SEMI hits certain EBITDA goals. Due to a lack of wafer price increases last
year, SEMI’s management missed out on the portion of their bonus tied to their 2014 EBITDA target. That EBITDA target is higher this year. A large portion of SEMI management’s RSUs will only vest once SEMI generates over $200 million in EBITDA. (SEMI generated $75 million in EBITDA in 2014 and is expected to generate $90 million in EBITDA this year).