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    Credo Technology Group Holding Ltd (CRDO)

    Q2 2024 Earnings Summary

    Reported on Jan 28, 2025 (After Market Close)
    Pre-Earnings Price$19.25Last close (Nov 29, 2023)
    Post-Earnings Price$18.46Open (Nov 30, 2023)
    Price Change
    $-0.79(-4.10%)

    What went well

    • Credo expects significant sequential revenue growth throughout fiscal year '24, driven by multiple factors including AECs, optical, and chiplets, indicating strong demand for their products and services. For Q3 fiscal '24, revenue is expected to be up 18% sequentially at the midpoint.
    • The company anticipates expanding gross margins over the upcoming years, reaching 63% to 65%, demonstrating improving profitability due to increasing scale and improving product mix.
    • Credo is well-positioned to capitalize on the growing chiplet market, especially with the promotion of the UCIe standard by Intel. The acceleration of speeds in networking technologies is happening "really across the board," benefiting from their strong SerDes IP and expertise.

    What went wrong

    • Profitability Decline: Credo reported an operating loss of $731,000 in Q2 compared to an operating income of $3.2 million a year ago, and net income decreased to $1.2 million from $2.2 million last year, indicating declining profitability due to reduced top-line leverage.
    • Over-reliance on Major Customer with Inventory Issues: The largest customer, Microsoft, continues to digest inventory built up from earlier in the year, contributing to headwinds that may not fully subside until fiscal 2025, indicating potential revenue risks due to customer concentration and timing of demand recovery.
    • Volatility in Gross Margins and Revenue Mix: Product gross margins declined sequentially in Q2 due to product mix and inventory-related items, and IP revenue, which was 17% of revenue in Q2, is expected to be within the lower long-term range of 10%–15%, suggesting potential pressure on margins and revenue variability. ,

    Q&A Summary

    1. Revenue Outlook and Growth Expectations
      Q: What are your expectations for revenue growth in fiscal '24 and '25?
      A: We expect modest top-line growth from fiscal year '23 to '24, with our Q3 guidance at the midpoint up 18% to $52 million. Looking ahead, while we're not providing formal guidance for fiscal '25, we anticipate meaningful growth based on our customer engagements. Multiple factors, including AECs, optical, and chiplets, are driving our sequential growth.

    2. Gross Margin Outlook
      Q: How are gross margins trending and what are the drivers?
      A: Our Q2 product gross margin was down sequentially from Q1, mainly due to slight product mix changes and minor inventory-related items. However, there's no change to our long-term expectation to expand gross margins to the 63% to 65% range over the upcoming years. From fiscal '23 to '24, you're seeing this play out, albeit not linearly quarter-over-quarter, and it will continue through next year.

    3. AEC Customer Ramp and Expansion
      Q: Can you provide an update on AEC customer ramps and new developments?
      A: We're ramping with our first two hyperscale customers and have showcased our AECs prominently in Microsoft's Maya AI appliance and Amazon's re:Invent demos. Additionally, we're in qualification with a third hyperscaler for a 400G solution, expecting completion in the upcoming quarter, and developing an 800G customer-specific solution for a fourth hyperscaler.

    4. Optical DSP Business Growth
      Q: Where is the strength in your optical DSP business coming from?
      A: We continue to ramp with our partner serving a U.S. hyperscaler over the next several quarters. We're also seeing renewed demand from 3 or 4 hyperscalers in China. Any potential engagements with a new U.S. hyperscaler aren't included in our current numbers and could impact revenues in fiscal '25.

    5. Timing of AI-Related Revenue Ramp
      Q: When will you see volume revenue from AECs in AI back-end networks?
      A: In fiscal '24, our revenue is based on qualifications and small pilot builds, which are meaningful but not at full production levels. As we look into fiscal '25, we're confident about the ramp but remain conservative on pinpointing the exact quarter due to the complexity of deploying at volume scale.

    6. Major Customers and Revenue Diversification
      Q: How many 10% customers do you have, and what's the outlook?
      A: For Q2, we had three 10% end customers, with the largest being 29% of revenue. We're expanding our customer base, and one of these is a new end customer. By the end of the year, we might have around four 10% customers.

    7. Inventory Digestion by Major Customer
      Q: Is the headwind from your largest customer's inventory digestion over?
      A: Both general compute and AI applications at our lead customer are contributing to digesting the inventory built up earlier. We have good visibility into fiscal '24, but we're being conservative and expect a return to more normalized levels in fiscal '25.

    8. Competitive Landscape in AEC
      Q: How do you view competition in the AEC market and your market share?
      A: We anticipate increased competition as AECs become standard for in-rack connections. However, our time-to-market advantage and direct engagements with hyperscalers give us an edge. We hope to maintain over 50% market share long-term, leveraging our first-mover advantage and superior customer experience.

    9. Gross Margin Drivers and Product Mix
      Q: How is product mix affecting your gross margins, particularly with AECs?
      A: Over the long term, we expect gross margins to grow across most product lines due to increasing scale. This year, gross margin fluctuations are more about product mix rather than scale. As we exit the year at record revenue levels, scale will contribute again, and we anticipate uplift in AEC margins as we target 60% to 65% overall gross margin.

    10. Pluggable Patch Panel (P3) Opportunity
      Q: How is the P3 product impacting your AEC business and customer adoption?
      A: The P3 was developed with a leading service provider to solve networking challenges. It allows for seamless connection of different speed optics with routers and switches, and addresses power and cooling issues. While content per deployment varies, we believe it will significantly drive AEC demand as more service providers adopt it.

    11. IP Business and Consumer Transition
      Q: How will your IP business mix transition towards consumer markets?
      A: Currently, our IP business is primarily Ethernet-focused. We've engaged in a large consumer license moving to 40G PAM3 for an 80Gbps solution, but production is 2–3 years out. We don't expect consumer to be a big part of our IP business long-term; Ethernet IP will remain strong, and we're advancing 64G and 128G solutions in PCIe.

    12. Chiplet Market and PCIe Acceleration
      Q: Are you seeing GPU markets adopting chiplets and faster PCIe standards?
      A: The UCIe standard promoted by Intel is driving the chiplet market, closely tying with our efforts on PCIe. We're targeting the 64G PAM4 PCIe Gen 6 market and see acceleration towards 128G due to AI market demands for higher speeds. We anticipate PCIe to evolve similarly to Ethernet, potentially becoming a protocol for back-end network connectivity.

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