Monolithic Power Is a Rising Power Management Star With a Wide Moat and Strong AI Prospects

Equity Analyst

William Kerwin

We think Monolithic Power Systems is a disruptor in the power management chip market, using its proprietary process technology to differentiate from larger competitors. In our view, electrical engineers tend to buy power management semiconductors from reputable, proven vendors that use lagging-edge manufacturing. As a relative newcomer, MPS differentiates via its unique fabless model, with which it develops advanced manufacturing processes that integrate many functions on a single chip to offer a smaller form factor and greater energy efficiency to its customers. While MPS remains a small player in power management, we think revenue growth far above its largest competitors shows its differentiated approach to power management is gaining traction in the market. 

We think MPS has intangible assets from its innovative chip designs and advancements in manufacturing that carve out a wide economic moat, in our view. We think analog incumbents are likely to continue serving a wide array of end customers with lagging edge, in-house chip manufacturing, rather than competing for MPS’ higher-tech sockets. Like its larger rivals, MPS also benefits from high customer switching costs once its chips are designed into end products, especially in end markets with long product life cycles. We think MPS’ asset-light fabless model will allow it to extract high returns from a low invested capital base, even as competition grows. 

We expect MPS to focus on organic top-line growth across all its end markets going forward and to continue outgrowing other analog chipmakers as it takes market share. We think MPS will experience its most rapid growth in data centers as it benefits from artificial intelligence investment. We also expect high growth for sales into cars, where it is moving up the value chain and winning designs for advanced driver-assist systems and battery management sockets. We also think an improving end market mix and higher efficiency manufacturing will bolster gross margins. Finally, we think MPS will continue investing heavily in further advancing its process technology and aggressively marketing its differentiated approach to maintain its higher-than-market growth.

Business Strategy & Outlook

We think Monolithic Power Systems boasts a wide economic moat, as a result of intangible assets in analog chip design and switching costs for its integrated power management chips. In our view, these will enable the firm to average returns on invested capital in excess of its weighted average cost of capital over the next 20 years.

While digital integrated circuits process digital inputs—sequences of 1s and 0s—into digital outputs, analog chips process continuous real-world signals into a digital output. The priority in digital semiconductors is packing ever-smaller chips with more transistors using cutting-edge manufacturing in pursuit of Moore’s Law, but analog design uses lagging-edge manufacturing, with customers prioritizing reliability, accuracy, and precision. In the case of Monolithic Power’s bread and butter of power management, power management integrated circuits regulate incoming electricity—with varying voltage and current—to produce a stable electrical output to safely power a device. It is our view that power management discrete transistors—like metal-oxide-semiconductor field-effect transistors and insulated gate bipolar transistors—are generally less differentiated and more commoditylike than other semiconductor applications, but Monolithic’s focus on highly integrated power management chips helps create a differentiated product with a compelling value proposition.

Monolithic Power’s value proposition is eponymous: it can provide a single (monolithic) integrated power chip to replace a system otherwise composed of several discrete transistors or chips. Monolithic does this through its proprietary bipolar-CMOS-DMOS (BCD) process technology, now in its sixth generation. BCD combines analog, digital, and memory components into a single integrated chip; the combination of these three components creates a final product with higher power density and configurability than a combination of three point solutions. While other analog players also have BCD technology (STMicroelectronics invented it in the 1980s), MPS has made it the core of its entire business. 

Because analog chips generally sell on the basis of reliability rather than cutting-edge performance, large analog chipmakers typically build their own manufacturing sites (fabs) with lagging-edge manufacturing processes and extract high returns from producing the same product over the course of decades without much additional development. As a small fish in a big analog pond, Monolithic Power has opted instead for a fabless model, designing its own manufacturing process (BCD) in tandem with third-party foundry partners. Monolithic uses its foundry partners’ older, fully depreciated digital fabs to design its own production lines and tools for its proprietary BCD at a relatively lower cost. By not owning its own fabs, MPS can be nimbler in innovating its process technology than larger peers that are content to produce lagging-edge, steadfastly reliable chips that produce steady cash flows. We think this has allowed MPS to achieve a 55-nanometer process for its BCD, while other analog players’ most cutting-edge BCDs currently sit at either 110 nanometers or 90 nanometers.

Monolithic Power’s contrasting approach to analog design and focus on innovation has resulted in a process with the fewest layers of any BCD on the market, which results in higher power density and faster time to market than competing offerings. For customers, benefits to higher power density include a smaller form factor, longer battery life in devices, and reduced cooling and ventilation needs in server configurations.

For Monolithic Power, its ability to integrate multiple technologies into a single chip allows it to bring innovative new products to market, like its marquee QSMod controller. QSMod regulates power input to a processor to a high degree of precision, resulting in lower power loss and greater efficiency than a typical microcontroller. The higher levels of efficiency also allow end designs to reduce the size of a chip’s capacitor (which stores short-term power for the processor), giving an even smaller form factor to customers. High levels of power precision allow Monolithic to use QSMod in designs alongside of different types of chips, like field-programmable gate arrays, application-specific integrated circuits, and graphics processing units. These expensive, high horsepower chips require a constant, steady supply of power, and QSMod’s precision is well suited to be integrated alongside such processors. Thus, Monolithic can serve a variety of applications with a centralized technology, incurring relatively low incremental research and development expense for each iteration. 

In industrial motor applications, Monolithic Power’s e.Motion chips—also built with its BCD—integrate a motor driver and magnetic field sensor, allowing for precise, real-time, automatic control of a motor. This contrasts with the more ubiquitous technology that combines a motor driver chip with three independent hall sensors to gauge motor position. According to management, the legacy tech runs a customer $20, while Monolithic can charge $5 for a smaller, more precise e.Motion chip while earning a high margin.

We think Monolithic Power’s tech, stemming from its proprietary BCD process, would be difficult for another established analog chipmaker to replicate, much less a new entrant. In fact, management has indicated that few in the firm itself actually know the process end-to-end in order to preserve the firm’s secret sauce. In our view, talent for analog chip design is scarcer than it is for digital chips, due to greater emphasis in the broader semiconductor industry being placed on digital improvements in accordance with Moore’s Law. Analog chip designs are highly proprietary, and it can take years to train new engineers on the intricacies of analog design. We think that existing analog competitors are unlikely to dedicate such scarce engineering talent to develop an entirely new line of products that will replicate Monolithic’s technology.

We also think Monolithic Power benefits from customer switching costs for its power chips, resulting from its high levels of integration and low relative cost. Monolithic’s highly integrated chips allow its customers to create unique, streamlined designs that couldn’t be achieved with lagging-edge analog technology. In doing so, Monolithic acts as a close design partner to its customers, using its experience and acumen to help design a system integrated with its technology. If a customer wanted to switch suppliers, it would have to undergo a complete system redesign, likely incorporating several different chips or discrete transistors to achieve the same functionality that a singular MPS solution offered. The costs of switching away from Monolithic Power in this case would include the time and financial burden spent finding a new supplier and conducting a redesign, as well as producing a chip with a larger form factor and greater energy needs, both of which would create a higher-cost solution.

Monolithic Power’s switching costs are steepest in its longer cycle businesses, specifically the automotive and industrial verticals. In industrial applications like motor drives, end products can have life cycles of a decade or more. In automotive applications, Monolithic works with OEMs or Tier 1 suppliers two to four years in advance of a car hitting the market, and model lives typically range from five to seven years, creating a total relationship length of up to 10 years. A customer is unlikely to want to switch suppliers mid-product cycle, which would require a system redesign and halted production for the duration of the switch.

Monolithic Power’s switching costs are magnified when one considers the small portion of an end product’s overall cost made up by Monolithic’s chips. In our view, analog chips are generally low-cost, and customers choose based on performance (reliability) rather than price. Monolithic’s value proposition to customers of an overall lower-cost solution reinforces this dynamic. In a data center, a single server configured with two processors can cost well above $5,000, and Monolithic’s maximum dollar content would be about $100. In cars, the bill of materials can eclipse $10,000, and Monolithic’s content maxes out at about $125. We think customers will be loath to swap out a perfectly functioning power management system, incurring a partial system redesign in the process, for only 1%-2% of the overall cost—especially when the chip poses a smaller form factor and better energy efficiency than a replacement.

In our view, the combination of Monolithic Power’s differentiated process technology and the switching costs posed by its integrated chips carve out a wide economic moat. Due to its fabless model requiring low capital expenditures compared with other chipmakers, MPS is able to earn high returns on a small invested capital base. By our assessment, MPS’ returns on invested capital haven’t dipped below 20%—even when its business was barely breaking $100 million in revenue—and have steadily grown with its top-line and margin expansion. Over the next 20 years, we think Monolithic’s asset-light business model will allow it to continue to earn returns above its cost of capital over the course of the business cycle and through heightened competition as it grows.

Wide

Economic Moat

Monolithic Power Systems

Monolithic Power Systems, Inc. designs, develops, and markets integrated power semiconductor solutions and power delivery architectures for computing and storage, automotive, industrial, communications, and consumer applications markets. It offers direct current (DC) to DC integrated circuits (ICs) that are used to convert and control voltages of various electronic systems, such as portable electronic devices, wireless LAN access points, computers and notebooks, monitors, infotainment applications, and medical equipment. The Firm also provides lighting control ICs for backlighting that are used in systems, which provide the light source for LCD panels in notebook computers, monitors, car navigation systems, and televisions, as well as for general illumination products. The company was founded by Michael R. Hsing, and James C. Moyer on August 22, 1997, and is headquartered in Kirkland, WA.

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