Diodes Incorporated, a name synonymous with the unassuming world of discrete and analog semiconductors, might not be the first company that springs to mind when thinking about explosive growth. But tucked away in their recent Q1 2024 earnings call transcript lies a signal, a subtle shift that hints at a potential surge that most analysts seem to be overlooking.

The story revolves around Diodes' ambitious internalization strategy. Over the past few years, they've been aggressively acquiring fabrication facilities, most notably SPFAB from Onsemi and GFAB from Texas Instruments. The goal? To bring more manufacturing in-house, taking control of their supply chain and boosting margins by reducing reliance on external foundries.

While this strategy has been known, what's changed is the sense of urgency. Previous transcripts have discussed qualification efforts, but the language in the Q1 call suggests a notable acceleration. Gary Yu, Diodes' newly appointed President, specifically mentions projects ahead of schedule, hinting at a faster-than-anticipated internalization ramp.

This is where the potential Wall Street blind spot comes into play. Most analysts are focused on Diodes' near-term challenges: a slow recovery in the consumer electronics market, inventory rebalancing in the automotive and industrial sectors, and pressure on gross margins due to underutilized facilities.

But what they're missing is the impact of a successful internalization drive. If Diodes can indeed accelerate this strategy, it could create a potent combination:

Margin Expansion: In-house manufacturing will directly address the underutilization problem, boosting gross margins towards their target model of 40% even without a significant demand recovery. Increased Capacity: Once qualified, the acquired fabs could unlock significant additional capacity, positioning Diodes to capture share as demand rebounds. Enhanced Customer Confidence: Yu specifically notes that key customers are inquiring about Diodes' internal fab capacity, signaling growing confidence in their long-term supply capabilities.

There's a compelling numerical argument to be made here. Diodes' gross margin fell to 33% in Q1, down from 34.9% in the prior quarter. They attribute this primarily to underutilization, suggesting a potential 7 percentage point margin lift if those fabs are fully utilized.

Furthermore, Diodes' ASP, independent of product mix, has been declining at a modest 1.5% to 2% per quarter. This suggests that pricing pressure isn't the primary culprit behind the margin squeeze, further supporting the internalization thesis.

Here's a potential scenario that could play out:

Q2 & Q3 2024: Internalization efforts begin to show results, gradually lifting gross margins despite continued demand softness. H2 2024 & Beyond: Demand recovers, amplified by Diodes' enhanced capacity and customer confidence. Margins expand further as utilization rates rise, leading to a surge in profitability.

Gross Margin Trend and Potential

Here's a potential scenario that could play out:

Of course, this is a hypothesis. Diodes' success hinges on their ability to execute this strategy effectively and on a timely basis. But the signals are there, hidden in plain sight. And for investors willing to dig deeper, the Diodes opportunity might just be the biggest surprise of 2024.

"Fun Fact: Did you know that Diodes was founded in 1959, making them one of the oldest players in the semiconductor industry? Their longevity is a testament to their adaptability and ability to navigate through multiple industry cycles. Source: https://www.diodes.com/company/about-diodes/history/"

Company Information:

Market Cap: $3,393,261,824 Stock Symbol: DIOD (NASDAQ)