+ Hidden Champion in a niche of IR detector market.
+ The future use cases of detectors is very large and is growing (for example self driving cars)
+ Very high margin sales speaks of the quality of Vigo’s products, also a nice track record of growth.
+ Founder led with high ownership from current and previous employees.
+/- Mass market products could lift Vigo into another level, but also high uncertainty who of Vigo’s customers will come up with a good enough use case to scale sales.
– Valuation already fairly stretched (in my view) but on a peer comparison level still not expensive.
– EU has decided to ban metals like Mercury which is essential for Vigo’s currently sold detectors, a 7 year exemption is likely.
– Very hard to fully understand this company and its product offering, the competitive landscape and what use cases have high potential for Vigo.
In the 1980s, a team lead by Joseph Piotrowski, at the Military Technical Academy, developed a unique technology for the production of infrared detectors working without cryogenic cooling. This invention led to the establishing of what now is VIGO System S.A. VIGO is located to the west of Warsaw, Poland, and with over 130 employees they have a global market reach providing customers with world leading uncooled infrared photon detectors.
The Company’s unique position and quality of products is confirmed by the usage of its products and the high margins the company enjoys in its small niche. The company is a true “hidden champion” with an estimated market share of over 50% of the market. VIGO is also in the pursuit to keep pushing the boundaries of its products quality as well as lower price products. Its recent investments in production capacity is ramping up production capacity from 10,000 detectors per year up to 100,000 detectors. The investment thesis is that the world will find more and more use cases for VIGO’s products. With YoY growth of some 25% in the past years and given the wide usage of its products already, its a compelling case.
VIGO’s mid-IR detectors are complicated to understand and his has taken me considerable time to wrap my head around how they are produced and more importantly where they are used. This write-up will therefore spend quite a lot of keystrokes on the products and their use cases. Let’s jump into it
Although VIGO is a very small company, their technology for a very specific area of infrared detection is nothing but world class. The company occupies a leading position on the global market of uncooled infrared detectors in the 3 – 16 µm range. The specific range 3 – 8 µm is called mid-IR.
The company has some 132 employees and have a high degree of specialists in the company: 1 Professor, 10 Phds and 42 Msc. Employees have been increasing steadily with 25 in 2018 and 23 in 2019.
VIGO is able to produce a detector module which can operate at ambient temperature (with comparable detection) as most competing products, which require cooling with liquid nitrogen. This obviously significantly limits the competing products use cases.
Although sensors produced today is market leading, they are also expensive. Which significantly limits use cases and the growth in usage. VIGO has big plans to push their product innovation further, by introduce cheaper modules to the market, which is more suitable for mass product usage. These Low-Cost Detection Modules would potentially open up entirely new use cases in a consumer segment of the market.
In 2019, VIGO opened a new production facility and have recently invested in new clean rooms for scaling up production via multi wafer runs to meet demand and reduce costs.
In 2020, the Company decided to open its own representative office in Taiwan, with the purpose to strengthen sales towards the Asian markets.
What are infrared detectors?
In the dark it is possible to see – thanks to night vision cameras – objects that are invisible to the naked, infrared detectors detect “thermal traces” of the smallest particles. Miniature photon detectors are the size of one pixel in the matrix of a digital camera. The difference is that the matrix in the mobile phone detects radiation in the visible range, and the infrared matrix – in the range that the human eye cannot see. In the last century, detectors were used mainly for military purposes. The first bombs were equipped with primitive heat detectors, which led them to the chimneys of factories and other strategic objects.
VIGO sensors, from a distance of up to 100 feet is capable of instantaneous detection with 6 times more capability than state-of-the-art trace portal scanners to detect bombs and illegal drugs, read more: Security Scanner and MIRPHAB,
Today detector systems are used in various fields, military, industrial and environmental among others. Micro sensors also help to non-invasively test the concentration of glucose in the blood or disease markers in the exhaled air. The detectors are termed “noses at a distance”. Except that they do not smell the smell, but the radiation sources of a given wavelength. Every molecule, every atom, radiates in a certain way. The sensor receives this radiation and recognizes it. Thanks to this, a person can infer what element or substance he is dealing with. And you don’t have to be close to unknown matter. Sensors can be placed on telescopes, with their help to determine, for example, the composition of stars. VIGO’s detectors flew during the NASA mission to Mars, where they detected the presence of methane. The European Space Agency also used them. Mid-IR gas sensing is especially important in industrial and medical applications. This is due to the fact that the most important gases are molecular gases and have strong rotational-vibrational absorptions in the Mid-IR spectral range.
VIGO’s products segments
Products offered by VIGO can be found in a very wide variety of use cases, I have tried to summarize examples below. This is how VIGO presents its sales breakdown by segments, all of them related to detectors except the new area “Semiconductors”.
Medicine – Detection on early stage markers of neoplastic diseases, oncological changes in soft tissues or disorders in the blood (non-invasive). Successful attempts at measuring oxygen saturation, blood flow, and even glucose content have been documented, with an error rate comparable to that shown by traditional glucose meters. This area has not seen any major sales so far but is perhaps the most exciting area for future sales growth.
Science – laser spectrometer used for example by NASA and ESA for exploring Mars.
Environmental Protection / Other – Gas analysis, real-time water quality control, air pollution monitoring.
Industry – Monitoring and control chemical processes. Devices incorporating VIGO detectors are used as electronic “noses” – they can measure very small concentrations of chemical substances in a mixture. The detectors are also used in the production of the latest generation semiconductors. This is VIGO’s largest segment based on historical sales.
Transport – Analysis of temperature distribution in fast moving objects for example trains. Exhaust gas composition analysis. Here Caterpillar can be mentioned as a large purchaser of detection modules for rolling stock (trains).
Defense and Security – early warning systems for military tanks, intelligent and homing ammunition, detection of trace amounts of drugs and explosives. Here Safran Aerotechnics can be mentioned which in June 2020 put in an order worth 5.4 million EUR (24m PLN), thanks to this order, the Defense segment has grown significantly in the past quarters as VIGO is fulfilling the order until January 2022.
Semiconductor – This is a new emerging segment of production of epiwafer technology for use in communication systems, LIDARs, printers, time-of-flight sensors, autonomous vehicles, robots and drones. Exciting technology but not an area where VIGO is a proven world leader and competition does definitely exist.
Future products and Guidance
Three stage rocket
The transformation for VIGO is a 3 stage rocket where the factory expansion which factory capacity increased from 10k to 100k detectors per year.
Stage 1: High Priced Advanced Detectors (My assumption avg sales price 1000 EUR per detector)
Stage 2: Medium Priced Detectors (My assumption avg sales price 500 EUR per detector)
Stage 3: Mass market product detectors (My assumption avg sales price 100 EUR declining to 70 EUR per detector).
Currently Vigo is in early innings of expansion of Stage 2. Discussion in on-going with companies for a mass market application of their detectors.
Guidance for 2021
The company provides some guidance for 2021
- In 2020, there was a slowdown in the dynamics of revenue growth from the industrial segment – mainly due to a decrease in turnover with one of the customers producing industrial equipment semiconductor. In the remaining sub-segments, the Company records a steady increase in orders. In 2021 The company expects a return to faster growth dynamics – ie at least 20%. This increase is stimulated by several factors:
- Increase in orders from existing and new manufacturers of gas analyzers,
- The launch of new products from the Low-Cost Detection Modules family. These products have been positively evaluated by customers who received the first samples and the Company is counting on significant orders in 2021.
- The company is intensively developing the epitaxial layer sales network. In 2021, the Company expects to achieve revenues from the new segment of at least EUR 1.5 million
In the opinion of the Management Board, based on the information currently in its possession about expected orders for existing and new products in 2021, the Company expects an increase of over 20% compared to 2020.
Management & Ownership Structure
Joseph Piotrowski founded the company and its now led by his son Adam Piotrowski. Adam was immersed in physics and semiconductors from an early age. While still at high school, he helped his father prepare documents for presentations and helped with the company website, and in his father’s work breaks, they would talk about the physics behind semiconductors and other aspects of VIGO’s technology. Adam went on to study a Msc and later a PhD in Materials Engineering. In 2015 Adam became the company CEO.
Joseph hold some 12% of outstanding shares, so not enough to call it a fully family owned business, but surely enough to have deep skin in the game.
Previous senior leaders in VIGO who are now board members: Janusz Kubrak and Miroslaw Grudzień retain their holdings. This I’m very impressed with (their holdings are worth 6-8m USD each). I did not dig deeper into the personal finances of these two gentlemen, but this must be a very significant portion of their net worth tied up in the company.
Overall a very positive shareholding structure in terms of skin in the game, but not enough ownership to disregard other shareholders, in my view an ideal mix.
Worrisome trends from EU
So up until this point of the analysis I was very bullish on Vigo Systems, but quite late in this deep-dive I found some worrying trends from EU. Apparently there is a EU directive to ban usage of dangerous materials in products, like for example Mercury, which is a vital ingredient for producing Vigo’s detectors. To be more specific basically all of Vigo’s current detector sales is of the type HgCdTe (MCT), where Hg is Mercury, Cd Cadmium and Te, Tellerium. The first two are threatened to be banned in EU. I spent considerable time to try to understand this landscape. The layman version goes something like this: EU wants these type of elements gone from products, but also recognizes that if there are no substitutes for a product which is important for other reasons an exemption can be given. For example an MRI camera might need a certain dangerous metal to function. Then the harm of that metal is outweighed by the good that the MRI machines does to EU citizens. So there is an exemption process where companies can apply for a 7 year extension where they are allowed to continue to use this metal. Another mitigating factor is how extremely tiny volumes of this stuff is needed. Reading these exemption application documents its clear that all the annual sales from Vigo of detectors is only needs a few grams of Mercury. When I was a kid we had a Mercury thermometer at home, I think one thermometer probably contained a few grams of Mercury.
There are various deadlines for the exemption process depending on the application, the main deadline for Vigo is Jan 2023. If they haven’t received an exemption by then, they are not allowed to sell their MCT detectors in Europe. Vigo seems quite confident and I would tend to agree that an exemption will be given, but it will depend on how good the substituting products are. Researching alternative products is obviously something Vigo is spending effort on as well. But it seems challenging to produce a (uncooled) detector that works as well as the MCT detectors without any of the harmful metals.
Looking at competitors like, Hamamatsu, a world leader in a more broad sense in this field they do seem to face this issues as well for other products. But since they do not really product the MCT detectors in any larger scale the risk is also Vigo is fairly alone to make a strong case for MCT. That is the downside of having carved out this niche so well, you are more alone against regulators as well. What Vigo needs is companies like their end-customers stepping in saying they need Vigo’s detectors. What I’m a bit afraid of is that Vigo currently has this niche where they are outstanding, if they get an exemption that is of course great. But sooner or later this might be a trend around the world to ban this substances at which time Vigo might lose its advantage to giants like Hamamatsu.
More about the exemption process can be found here: https://rohs.biois.eu/requests4.html
This is a specific Exemption request filed by Vigo CEO Adam: https://rohs.biois.eu/Ex-1c-IV_PPTF_Renewal-Request.pdf
Given how strong Vigo is in its niche of CMT detectors, comparisons doesn’t become that interesting. Here is a peer table from IPOPEMA Research which shows how tiny of a player Vigo is and also how multiples companies in this high tech industry is trading at. There is clearly a lot of expectations for growth of this whole sector.
Outside of the listed companies the space seem to have a number of small players. For example I found a small Swedish player which is called IRNova. Here is presentation of their latest detector technology which Vigo is also developing: IRNova
Based on the three Stages of the company I built fairly detailed scenarios of how sales could develop of Vigo’s expensive, medium and low priced detectors.
These assumptions can be summarized in these pictures as Base, Bull and Bear scenarios:
It’s worth mentioning what incredible margins Vigo has on it’s products, their sales annually is only about 15m USD or 58m PLN but about 30% of that falls down to Net Profit. So increased sales quickly translates to incredible profit growth.
As you can see these are quite decent sales volume assumptions, but not overly aggressive looking at Vigo’s track record in the past years. Obviously what could pull down this significantly into a bear scenario would be a ban in 2023 in EU as discussed above. A ban would probably not affect sales worldwide but it’s hard to estimate how their end customers would react in terms of seeking alternative detectors.
A DCF valuation based on the above assumptions gives a quite wide range of valuation outcomes:
- Base Case: 695 PLN per share
- Bull Case: 1098 PLN per share
- Bear Case: 344 PLN per share
So it all comes down to the weights given to the scenarios. When I purchased this stock I had a quite high percentage on the bull case. But with the information I found about the EU ban I revised down my scenarios to:
Base Case: 60% probability, Bull Case: 25% probability, Bear Case: 15% Probability.
This gives me a target price of 743 PLN per share.
Higher than where Vigo is currently trading (695 PLN), but not by much.
Vigo is very impressive in many ways and ticks a lot of my investment boxes – skin in the game, track record etc. Margin of safety is still important to me, especially when entering a market as Poland and a complicated company as Vigo. In the past I discarded a lot of my investment because I just realized they are too hard to understand. I would say Vigo is borderline for me in terms of being able to understand the detector business and its use cases. So after spending so much time to understand how different detectors work it’s quite underwhelming to come to the conclusion that I don’t see enough margin of safety. Still I try to stay true to investing in undervalued stocks, buying a dollar for sixty cent. Therefore decided to exit my position at 680 PLN per share recently. I was unfortunately a bit slow to present this holding which I entered initially in October at 545 PLN. Even at that price, with what I know now this investment was borderline in terms of margin of safety. I still wanted to present you this case, as I think the company is in a very interesting niche and I will definitely keep it on my radar to see how they develop. As always happy to hear your thoughts and hope you enjoyed another analysis of an excellent company off the beaten track.