fibeReality understands that a partial reason for the Street hitting Lumentum so hard several days ago was a note from CLSA that Apple is designing its own VCSEL array with the intention of using a foundry to produce the device. While we are not inclined to believe at this time that the report has much merit in terms of any short-term implications for Lumentum, the assertion suggests to us that at a bare minimum, it could be one or a combination of the following: a warning, a punishment for an earlier or unknown faux pas by the large optical components firm, or the prevalent inclination of the customer to engage in “nasty tactics.” Hypothetically, it cannot be ruled out that Apple could bypass Lumentum at any time, and go directly to WIN Semiconductors. We think the foundry firm was by far the most responsible for putting together the ecosystem, which allowed this large smartphone provider to get the required 3D-sensing components, and it is not clear to us what types of functionality Lumentum provides in the supply chain, other than to be an intermediary. Conversely, Apple would probably be reluctant to mess with the only current network of companies in the world, which is producing these arrays in such high volume, and as indicated below, could depend on it for substantially greater quantities.
If Apple happens to desire an improved design, then it would not be unreasonable to assume there could easily be a need for changes across the Lumentum manufacturing chain, resulting in higher costs, such as in resolving yield issues, etc., with the buyer perhaps unwilling to pay a premium. Assuming that they are just the same types of VCSEL bare die, it would obviously just seek out another fab entity, if absolutely necessary. The advantages of driving down the cost with the RFIC foundry model should be maintained, even if Apple is forced to be its own supplier.
It should be noted that Apple hired some VCSEL engineers around a year ago. Yet, they were probably more for support purposes, especially with the problems initially associated with producing the six-inch wafers.
Lumentum is bolstered by its currently strong competitive position, particularly against the two American companies, which have yet to prove they either can or even completely desire being players in this 3D-sensing business. For example, a second prominent engineer with a lot of VCSEL experience, has left Finisar, who was the “technical lead for high power…array development.”
Although it has been important for Apple, as we have pointed out in the past, to have a fully vertically integrated operation in the States, an alarming dilution of VCSEL talent at Finisar would not appear to be a good sign. In addition, II-VI has reportedly been having difficulty just remaining an official iPhone supplier.
If another claim that Finisar may outsource six-inch wafers, becomes the case, it would at least partly allow Apple to save face regarding its unusually high amount of public association with a particular supplier. If the latter is forced to produce its own VCSELs, at a minimum, it can take advantage of additional experts leaving Finisar or II-VI by either hiring them, or engaging them in consulting arrangements. Yet, given the number of firms around the world, which are either ramping up production of VCSELs for such 3D-sensing applications, or could potentially enter the space later, Apple may be able to avoid this last resort.
As always, fibeReality does not recommend any securities, and this writer does not invest in any companies being analyzed by us.
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[written by Mark Lutkowitz]