Tower Semiconductor Ltd. (TSEM) Earnings

Management highlights

**Strategic Milestones & Capacity Expansion** - Completed a restructuring transaction in Japan to gain full ownership of the 300mm Fab 7 in Ozu, creating a scalable platform to support growing SIFO demand; the facility is already profitable at current volumes, with adjacent land allowing expansion up to 4x current capacity. - Signed a long-term supply agreement with Nuvoton for Fab 5 Tanami to ensure manufacturing continuity for 200mm customers. - Ongoing $920 million capacity expansion plan for SIFO and SiGe across 200mm and 300mm fabs is on track; 40% of CAPEX has been paid to date, with the remaining 60% to be paid in 2026 and 2027. - SIFO production ramps are ongoing across four fabs, with first revenue shipments from Fab 2 and Fab 7 achieved in Q1; Fab 7 hit 95% yield on first SIFO wafers, and SIFO capacity is on track to grow 5x from Q4 2025 levels by end-2026. **Technology Development & Partnerships** - Achieved multiple next-generation technology breakthroughs: demonstrated a 400-gigabit-per-lane all-silicon modulator with Coherent, and a heterogeneously integrated 400-gigabit-per-lane indium phosphide modulator on the PH18DA platform with OpenLight. - Established new partnerships to develop scalable manufacturing for thin film lithium niobate, organic polymer modulators, and silicon photonics-based optical circuit switches for AI data centers; multiple partners have announced production-qualified advanced SIFO components for AI optical infrastructure. - Developed hybrid bonding and through-silicon via capabilities for CPO architectures, and holds leading positions in next-generation optical form factors (XPO, NPO) while investing in CPO technology. - Released Gen 3 power management BCD technology, achieving industry-competitive low on-resistance that enables 15% lower power conversion losses for customers; 200mm BCD pricing increased by 13% to reflect the platform's value. - Continued transition of RFSOI technology from 200mm to 300mm, repurposing 200mm capacity for higher-margin SIFO and SiGe; 300mm RFSOI has strong design win momentum driven by performance advantages over competitors. - Secured a second high-performance automotive image sensor design win, and is fully qualified for a next-generation high-end video sensor with a leading camera manufacturer, awaiting customer product launch. **Financial Position** - Maintains a strong balance sheet with $3.7 billion in total assets, $3 billion in record shareholder equity, and a current ratio of 5.6x. - S&P Maalot reaffirmed the company's ILAA rating and upgraded its outlook from stable to positive. - Natural hedging and zero-cost collar transactions mitigate currency exposure for Japanese yen and Israeli shekel, limiting margin impact from exchange rate fluctuations.

Guidance

- Second quarter 2026 revenue guidance midpoint is $455 million (±5%), representing 22% year-over-year growth and 10% quarter-over-quarter growth, which would be the highest quarterly revenue in company history. - Management strongly reiterates the target of sequential quarter-over-quarter revenue and margin growth throughout 2026. - The long-term 2028 model targets $2.8 billion in annual revenue, $1.12 billion in annual gross profit, $900 million in annual operating profit, and $750 million in annual net profit; an upward revision to this model is expected within the next quarter as additional capacity visibility is secured. - The 300mm SIFO capacity expansion in Japan is expected to come online in the first half of 2028 at the earliest. - The full-year 2026 consolidated RFSOI revenue is expected to be lower than 2025, with record growth expected in 2027 and 2028 as 300mm design wins ramp for 2028 phone models. - The effective tax rate is expected to range between 15% and 18% going forward after the non-recurring Q1 2026 tax benefit from the TPSCO transaction.

Segment performance

For Q1 2026, Tower Semiconductor reported total revenue of $414 million, 15% year-over-year growth, led by its Silicon Photonics (SIFO) segment, which achieved 3x year-over-year revenue growth. All other major product segments also delivered year-over-year growth: Imagers up 9%, RFSOI up 12%, Power Management up 10%, and Silicon Germanium (SiGe) up 24% year-over-year. Factory utilization for Q1 2026 was: Fab 2 at ~60% (constrained by SIFO and SiGe qualification), Fab 3 at 80% (constrained by new process adds), Fab 5 at 75%, Fab 7 at over 85% (fully utilized), and Fab 9 at 80%. Gross profit for the quarter was $111 million (52% YoY growth), operating profit was $65 million (96% YoY growth), and net profit was $65 million (62% YoY growth), with a 16% net margin, up from 11% in Q1 2025.

Risks & headwinds

- Forward-looking statements are subject to risks and uncertainties that could cause actual results to differ materially, with key risks detailed in the company's SEC filings (Form 20F, Form 6K) and Israeli Securities Authority filings. - Indium phosphide starting material is currently constrained industry-wide, though management reports the company has mitigated this via supply chain planning and expects to meet demand as indium phosphide products ramp in 2026. - The Japanese 300mm capacity expansion depends on regulatory approval, with a 18-month timeline from groundbreaking to tool installation, creating near-term capacity uncertainty if approval is delayed. - Increased competition from larger foundries (including TSMC and GlobalFoundries) in the silicon photonics market, particularly for integrated CPO solutions.

Analyst Q&A

• Q: How does Tower's silicon photonics (SIFO) and silicon germanium (SiGe) opportunity change as the industry transitions from traditional pluggable transceivers to near-package (NPO) and co-package (CPO) optics, and what is the SIFO:SiGe revenue relationship?

  A: Management expects existing SIFO leadership in pluggables to transition smoothly to NPO and later CPO. Pluggables will remain dominant through the 2030s, with NPO ramping before large-scale CPO adoption. SIFO port volumes are projected to grow 4.5x from 2025 to 2028, creating large overall market growth. SiGe growth tracks SIFO unit growth one-to-one (as SiGe is required for drivers and TIAs in transceivers), but SIFO has higher margin than SiGe, so SIFO revenue growth will outpace SiGe growth.

• Q: Is the $1.3 billion 2027 contractual SIFO commitment the full expected 2027 SIFO volume, and when will the long-term financial model be updated?

  A: The $1.3 billion represents only contracted delivery for 2027 from the company's largest customers, and does not include demand from the broader base of over 50 active SIFO customers, so total 2027 SIFO revenue is expected to be substantially higher. Additional 300mm SIFO capacity expansion for 2027 is not included in the current 2028 mid-term model, and an updated model with higher targets is expected to be released within the next quarter.

• Q: How will Tower address potential near-term SIFO capacity constraints before the Japanese 300mm expansion completes in 2028, and what is the long-term capacity scaling potential in Japan?

  A: Regulatory approval for the new Japanese build is still pending, with the facility expected to come online in H1 2028 at the earliest. To meet 2027 demand, the company is expanding SIFO capacity within the existing Fab 7 footprint and can repurpose an existing idle factory in the TPSCO complex for rapid incremental capacity. Any tools purchased for this interim step can later be moved to the new expanded facility, so no capital is wasted, and management expects to meet all customer demand in 2027.

• Q: How did gross margins increase year-over-year even with sequential quarterly revenue decline, and what is the margin trajectory?

  A: Margin expansion follows the planned linear progression outlined in the company's prior model. Incremental revenue from new higher-margin SIFO and SiGe products contributes 59% incremental gross profit, compared to a 20% baseline gross margin in Q1 2025. Gross margin reached 27% in Q1 2026, and is on track to reach 39% when the 2028 $2.8 billion annual revenue target is hit. The increase is driven by mix shift to higher-margin products, not broad-based price increases.

• Q: How does Tower compete with TSMC's long-term one-stop-shop strategy for CPO silicon photonics?

  A: TSMC has unbeatable advantages in high-volume deep digital CMOS, which is not Tower's focus. Tower's competitive advantage lies in best-in-class SIFO performance with advanced modulation technologies (indium phosphide, lithium niobate) that outperform pure CMOS SIFO. Management notes it is even possible that TSMC would integrate Tower's superior PICs into its own CPO solutions, and Tower is already a development partner for major integrated device manufacturers like NVIDIA developing CPO-based AI infrastructure.