Alphawave IP - Who Are They? Why Do Qualcomm and Arm Want To Buy Them?
Big news this week with both Arm and Qualcomm have been reportedly weighing up bids. Some updated thoughts on the company.
Intro
This is a short post on Alphawave Semi following the news this week that 2 semiconductor giants have considered bid for the UK listed firm. Full disclosure, this is a holding on mine and has been for some time. As usual, none of this is financial advice, I am an idiot on the internet.
Who are Alphawave?
I said I would keep this post short so I will not go into the full details of what Alphawave was when is listed and the ways in which it has changed as a company. All you need to know for the benefit of this post is that Alphawave are a semiconductor design company who specialise in connectivity solutions designed to quickly transport large amounts of data (SerDes). The most common application of such solutions are datacentres where billions of terabytes of data are stored, accessed and moved daily. Alphawave license their designs to a semiconductor company who implement these solutions in their chipsets. The trend of chiplets (modular chipsets where individual functions are specially designed and brought together in a larger chip) has meant that companies like Alphawave have seen increased interest. Amazon are on record as having been a de facto broker in Alphawave’s acquisition of Banias Labs for $240 Million in October of 2022, a significant investment of the proceeds raised from their IPO. Amazon also entered into an agreement following this acquisition to become a customer of Alphawave.
Strong support from leading hyperscalers is a very good sign with Microsoft listed as their second cloud partner on their website. They also work with a number of foundry partners including TSMC (Who they have won multiple awards from), Samsung and Intel, as well as IP Partners which also includes TSMC, Arm and Synopsys. This kind of cross company appeal is very attractive and shows the technology works and is in demand. Nobody I have spoken to about Alphawave has ever expressed any concerns over their technical abilities, understanding or products – something that cannot always be said of all semiconductor companies. Issues have been almost exclusively in relation to the running of the business and board decisions. This is clearly important, but as we will come on to later, the underlying technology having such great value to others within the industry puts a very high floor on the company’s valuation.
Despite being listed in the UK, Alphawave are a mostly North American outfit, headed up by Tony Pialis, an ex Intel employee and prolific Semiconductor entrepreneur. It was suspected that Alphawave listed in the UK due to their significant portfolio of Chinese business which would have made a US listing problematic given both the Trump and Biden administrations keenness to support Pro-American semiconductor initiatives and limit China’s progress in the sector. Following their listing, a Financial Times article came out which destroyed their share price and much of their reputation, a dark cloud which has lingered over them for the last few years. The article tried to draw the dots between a number of related party transactions and the Chinese revenue the company was generating, more or less suggesting they were not what they said they were. Their frothy valuation combined with this article led to a massive crash post IPO. I personally thought the article was very harsh but it was a perfect storm.
As someone who could not care less about American Anti-China hysteria, I found this to be an interesting opportunity. The now late co-founder of Marvell, Sehat Sutardja invested a significant amount of his family’s fortune in Alphawave following this drop and joined the board. His wife, also a Marvell co-founder, has now replaced him on the board since his death. Both Sehat and his wife’s significant industry experience made me take a closer look at the company.
If you want a deeper understanding of the company, I would direct you towards the following 4 resources.
Alphawave Semi Write up from VIC in 2022 which gives an excellent overview of the business https://www.valueinvestorsclub.com/idea/Alphawave_IP/0737743673#description
Alphawave Semi Write up from Fabricated Knowledge (Paid post but free post claim eligible)
Alphawave Semi Write up from Edward Xiao
Podcast – This Week in Intelligent Investing – Daniel Prather Unveils His Favourite Bargains in the UK Stock Market – Alphawave is discussed.
How have Alphawave Changed Over the Last Year?
In the last year, the company have tried to increase the pace of the winddown of their China business in an effort to shed some of the bad reputation they had gained. This has had a negative impact on their earnings in the short term. These Chinese contracts were not very high margin in comparison to their recent semiconductor licensing contracts but were established deals bringing regular cashflow into the business. The choice to move away from this business has made the last few quarters harder than I initially anticipated and led to a capital raise, but in theory should mean a better long term future with the business solely focussed on future development rather that legacy contracts for legacy connectivity solutions. My personal feeling as to why management made the choice to accelerate this transition is due to the increased demand we have seen from AI. The growth of AI and every company in tech jumping on this bandwagon has meant that we have seen greatly increased investment in these areas. In my view, the management team saw this as an opportunity to cut their China business sooner than expected as this could be replaced with increased revenue due to AI demand.
Alarm bells might be ringing for you at the mere mention of AI as a catalyst but the positive here is that Alphawaves’s SerDes solutions are hugely needed regardless of if AI demand turns out to just be a short term trend. This is due to the ever increasing demands of datacentres, a trend that predates recent AI growth. AI is simply acting as a stop gap that is filling the hole of reduced datacentre spending. Due to the arms race that is currently going on in the space, the cyclicality that Alphawave might have expected to see has been somewhat reduced as companies are currently very willing to invest in AI related improvements. Making the choice to focus on the development of solutions for the latest chips and expand into AI specific solutions means that Alphawave will avoid falling behind their peers, especially given they are competing with larger companies with access to more resources. What this means is Alphawave is now free of the fears of its Chinese business and is now solely focussed on high margin, new business which brings it into closer partnership with its semiconductor partners and puts it on the radar of potential new hyperscaler customers. Last week, the company announced new Optoelectronics Silicon Products specifically designed for hyperscalers with increased AI demands. These new products will enable the transmission of AI driven high speed compute data.
Arm and Qualcomm Bids
Alphawave has been going crazy over the last few days off the back of two bits of news. Firstly, it was reported by Reuters that Arm has explored buying the company in recent months but not made any further progress beyond these initial conversations. This is not exactly surprising as back in October, both companies reported a beginning of a partnership to collaborate on next generation chiplets that will be used in a variety of connectivity applications.
https://newsroom.arm.com/blog/arm-and-alphawave-semi-unite-on-6g-chiplets
Arm being a partner and considering buying the company is a very good sign as it shows an appreciation of their technology. Not long after the Arm news came out, it was revealed that Qualcomm had expressed official interest in acquiring Alphawave. The news does not mean anything is certain to happen but the company basically have 28 days to submit an official proposal from their filing of interest. I personally do not expect an offer to be made. And if one is made, I do not expect it to be accepted by Alphawave. One of the main reasons for this is that the company’s purpose for being created was to become a major company in its own right and they have been making significant process in gaining new customers and repairing their publicly dented image following their IPO. The second reason I do not think the offer will be accepted is I cannot see Qualcomm paying the kind of valuation that Alphawave would be looking for in the first place. If a company is intent on growing on its own, it is safe to assume that there would need to be a premium paid on its valuation in order to tempt its largest shareholders into selling a business they think its very attractive and can grow significantly. What does a premium look like for Alphawave?
Well, one of the major issues here is that Alphawave trades at a significant discount to US listed peers. Now as already mentioned, this might partly be some overhang from the mess that followed their IPO, but logically speaking, these two expressions of interests from 2 of the largest semiconductor companies in the world highlights the industry’s view that they are a valuable company with valuable technology. In a negotiation scenario then, it would not be reasonable to offer a price that was discounted to US peers, especially as once taken private, the place where a company listed is completely irrelevant. What does the closest US comp trade for? Credo Technologies is probably the closest thing to Alphawave. They both produce critical connectivity solutions that are key for high speed data transfer. Credo, trades at a valuation of $5.7 billion. Alphawave? $1.2 Billion. They do roughly the same amount in revenue, with Alphawave yet to report FY numbers, but guiding for $50 in Adjusted EBITDA in their last trading update for 2024. Going forward, this will only rise with new bookings already secured.
So what we are talking about here is a $3.5 Billion dollar disparity in valuation which logically is not warranted, especially not to a larger semiconductor company who are looking to acquire their technology. To a company like Arm or Intel, the boardroom struggles of Alphawave are less of a concern than they would be to an investor like you or me. Another factor to remember here is that Alphawave IPO’d at a valuation of $4 Billion. As we have already discussed, that valuation was not warranted then, but now, if the company was open to a sale, you would have to assume they would be looking for a premium of the money they were able to raise on their own when the company’s revenue base was mostly made up of Chinese and Related Party transactions. All these factors point to a reasonable offer for Alphawave exceeding $4 billion, over 3 times their current valuation.
Risks?
I am quite clear that I personally feel that downside is quite well protected here by the possibility of a takeover valuation greatly exceeding the current valuation of the company. However, if the company are not sold as I expect, there are still issues to be aware of. Firstly, as we have touched on already, AI and in general the current semiconductor space is a very volatile industry. We are dealing with trade bans, tariffs and complex geopolitical issues at every corner. It is a possibility that ongoing industry trends, turn sour and the growth of this sector has been massively overpredicted. If this was the case, Alphawave’s most specialised solutions will be far less in demand and their TAM greatly reduced. In any case, I do not expect a nice clear rise to the top. This will be a rocky road.
In addition to this, the company’s inconsistent financials and audit isses cannot be dismissed. Yes, the industry is a volatile and competitive one and Alphawave did grow very strongly following their IPO, making 3 acquisitions and significantly growing their headcount. But the choices made by Tony and his former CFOs have to be questioned. What is positive is the CFO appointed around 18 months ago, Rahul Mathur, is formerly of Rambus, another semiconductor IP company, which grew its value quite significantly during his 5 year tenue from 2016 to 2021 and has since gone on to be a 3 bagger in the last 5 years. I cannot really speak to his abilities but I am at least happy to see someone in the CFO position with specific semiconductor company experience (and hopefully will not have audit issues like his predecessor).
Conclusion
There is some baggage here, I’m not going to deny that. But I think the last weeks developments and clear interest in Alphawave’s technology should be taken by investors as a stamp of approval for their hard technical work over the last few years. Given the design wins and partnerships they have announced in recent months, I think the tide is starting to turn in their favour. I think it is likely that once Qualcomm walks away, the share price will crash back down. But I think it is more than a good idea to consider the facts and what you would be paying for Alphawave had it listed on the Nasdaq. It cannot be ruled out that once Alphawave feel ready, they will make the switch to a US exchange (They are listed OTC) and at that point, the valuation gap is very likely to close.