4 Big Risks for Aehr Test Systems Investors

One of the biggest winners this year has been Aehr Test Systems (AEHR 1.50%), which has seen its stock rise 92% on the year.

Aehr makes test and burn-in systems whereby chips can be tested at the wafer level under strenuous conditions to determine if they will last when put into a machine. Revenue has taken off on the prospect of high test and burn-in needs for silicon carbide chips (SiC) going forward.

SiC is a difficult material, but it can maintain high conductivity under high temperatures and is, therefore, an ideal material for electric vehicles. Given the long-term estimated growth of EVs, it's no wonder Aehr has surged this year.

But for those looking to buy or add to Aehr stock today, there are several risks of which you need to be cognizant.

Customer concentration

The first concern is customer concentration. Since the silicon carbide industry is really in its infancy, that means only a handful of companies are currently in large-scale production.

While more customers will no doubt ramp up in the future, last quarter, Aehr management noted that 88% of its first-quarter revenue came from just one single customer. That much concentration poses risks. 

Now, Aehr also noted that it currently has six total silicon carbide customers and that these other five should be ramping up their production over time. Still, it's unclear exactly how many systems these other customers will ultimately buy or if they will grow to the size of their largest customer.

There is also some debate among different companies as to how much "burn-in" testing is actually necessary for SiC chips. Therefore, these different SiC customers may deploy Aehr's systems in different volumes, even if they make similar amounts of SiC chips. 

How "recurring" are contactor sales?

Some bullish investors also note that Aehr Test may be somewhat of a "razor and blades" model, with customers buying Aehr's contactors, which connect the testing machine to the wafer, with each contactor designed to test a specific chip architecture.

However, the contactor-to-machine sale ratio may not be as akin to a razor-and-blades model as some might believe. Contactors are not necessarily correlated directly with usage or tied to the installed base. Rather, they are correlated to the type of device that the Aehr system is testing. So, contactor sales may not necessarily grow in line with the installed base but would rather depend on the diversity of chip designs of end-customers. That may not be quite as attractive a business model.

For instance, over the past few years, contactor sales have not increased in line with machine sales:

Data source: Aehr Test Systems annual report.

As you can see, even though machine sales have been increasing, contactor revenue didn't grow last year. In fact, even though Aehr's installed base is clearly higher than two years ago, even services revenue remained lower than in 2021.

Machine sales can be highly uneven, but if there is a true "recurring" services revenue model more tied to the installed base, as we see in other types of semiconductor equipment companies, that would perhaps lead to more stability in the revenue outlook. But that doesn't seem to be the case here.

Management might sell more stock

Aehr's growth possibilities are no doubt compelling, but that is reflected at least in part by its multiple. The stock currently trades at 62.5 times trailing earnings and 37 times forward earnings, which implies at least some robust growth in the future.

Is that too expensive? Perhaps not if the SiC and other markets take off and Aehr continues to lead the test and burn-in markets over competitors for the long term.

However, it also was not encouraging that management hinted it may sell more stock in the year ahead after selling 209,000 shares for $7.3 million last year. Aehr has $17.7 million left on its at-the-market authorization offering, which allows management to sell stock at market prices from time to time. Management still projected it would sell more stock through the ATM facility during this fiscal year on its recent conference call with analysts.

It's not clear that the company needs to raise cash, however. At the end of the first quarter, the company had nearly $50 million in cash on the balance sheet and no debt. Meanwhile, Aehr earned $5.2 million in non-GAAP (adjusted) income last quarter and expects profits of close to $30 million in the current fiscal year ending next May.

Given its cash balance, it's a bit strange to see management signaling it will sell stock. Thus, it seems possible management thinks shares are fairly valued or, worse, over-valued.

Electric vehicle sales are slowing

While electric vehicles are not the only market for silicon carbide chips, it is perhaps the most important core market. And lately, there have been signs the rapid takeup of EVs by consumers is slowing rapidly. Last weekend, the Wall Street Journal wrote that electric vehicle growth has slowed, with inventory starting to pile up.

While this no doubt could be a near-term cyclical symptom of higher interest rates, it could also mean that the early adopter segment for EVs is running out. Higher general prices for EVs, range anxiety, and other factors may make for a more difficult slog for fully electric vehicles to capture the mass market. That being said, the article also noted hybrid and plug-in hybrid demand does seem to be strong. However, it's not clear if these types of cars will have the same SiC content as battery EVs.

While it's possible the slowing is just a blip on a steadier path to EV adoption, this year's slowdown in EV sales certainly bears watching for Aehr investors and provides a fourth reason for caution.