Thesis
In a similar way to how the average American in the 1940s couldn't have predicted that the invention of the transistor in 1947 would lead to the rapid adoption of the internet roughly 50 years later, it's hard for me to describe in measurable terms what quantum computing will open up for us. Now that we have working examples of this hardware, we will eventually be able to write algorithms capable of solving some P vs NP level problems. The ramifications of this are hard to describe, but this means quantum computing is going to be able to crack any encryption, optimize travel through a city by controlling its traffic lights, solve markets and trade perfectly, and fold proteins in a simulator to produce new designer drugs. It is expected to revolutionize chemistry, material science, and machine learning.
Unlike much of its competition, IonQ (NYSE:IONQ) has already proven its version of the technology. Not only are they already selling time on their hardware through cloud services, they are building a quantum computing manufacturing facility. While they are still in the introduction phase and have yet to truly move into the growth phase, this company is far enough along in its business life cycle that it is no longer in danger of failure. I am assigning IonQ a Buy because they are approaching the transition point where they stop being a speculative venture and become a growth company. While the next couple of years may be a bumpy ride since this company is still in its startup phase, waiting until after the company has already proven itself could mean having to pay a significantly higher share price later on.
Company Background
IonQ is a publicly traded company that specializes in the development of quantum computing hardware and software. The company was founded in 2015 by Chris Monroe and Jungsang Kim, both of whom are renowned physicists in the field of quantum information science. Together, Monroe and Kim founded IonQ with the goal of building a commercial-scale quantum computer based on trapped-ion technology. In 2017, the company raised $20 million in funding from a group of investors, including New Enterprise Associates and GV (formerly known as Google Ventures). Since then, IonQ has continued to develop its technology and has attracted additional funding from a variety of investors, including Samsung, Mubadala Capital, and Lockheed Martin.
In 2020, IonQ announced that it had built a 32-qubit quantum computer, which the company claimed was the most powerful quantum computer built to date. When IonQ went public via a merger with a SPAC called dMY Technology Group III in October 2021, it raised $650 million in gross proceeds. The company is currently working on scaling up its technology to build even more powerful quantum computers, with the goal of making quantum computing services widely available to businesses and researchers.
What are Quantum Computers and What Can They Do?
For decades now, we have been making progress in processing power roughly at the rate predicted by Moore's Law, but our designs are approaching the physical limits of what transistor-based processors are capable of. Quantum computing breaks through this barrier with the quantum bit, or qubit. Unlike traditional bits, which can only have a value of 0 or 1, qubits can exist in a state of superposition, where they have both a 0 and a 1 value simultaneously. They can perform certain tasks much faster than classical computers, especially those that involve searching, optimization, or simulation.
Where is the competition?
There are several companies other than IonQ that offer cloud-based quantum computing services, including:
In addition to these companies, several others are actively developing and testing quantum computing technology and may offer quantum computing services in the future. These include:
If you notice, very few of these are pure plays. Most of the above companies are already well established, and quantum computing will merely be a small part of what the business does. The other six companies on this list - IBM, Google, Honeywell, Microsoft, Amazon, and Intel - are not pure plays, so I'm going to avoid them. It's not that I don't believe that their quantum divisions will find success, it's just that I look for potential multi-baggers. Google or Microsoft are not likely to 100x over the next decade; they are already too big, but a startup like IonQ might.
Of the other quantum computing pure plays, Rigetti Computing uses solid-state superconductors coupled with microwaves for their quantum hardware, and their technology looks promising, but they recently laid off 28% of their staff and are having problems as a company. Xanadu isn't a publicly traded company, but even if they were I still wouldn't be interested because their version of the technology uses photonic quantum computing. I am not a fan of photonic quantum computing because they suffer from limited qubit interactions, making it difficult for their version of the technology to perform some operations. Besides having limited applications, photonic quantum computers require more complex and expensive hardware than other types of quantum computers, so they do not scale well.
So why do I believe IonQ will do well over the long run?
IonQ uses trapped-ion quantum computing technology. In this type of quantum computing, ions are trapped and suspended in an electromagnetic field, and their quantum states are manipulated using lasers. The ions act as qubits, with their internal energy levels representing the two states of a classical bit. By controlling the ions' quantum states and allowing them to interact with each other, quantum operations can be performed on the qubits. IonQ's trapped-ion technology has several advantages, including long qubit coherence times, low error rates, and high-fidelity operations.
Trapped-ion quantum computing has recently made a significant breakthrough in the area of entanglement, drawing the attention of scientists across various sectors as evidenced by the latest hiring trends. For instance, two highly qualified PhDs, Dave Campagna and Nathan W., recently left their positions at Honeywell to join IonQ, which speaks volumes about the company's appeal. The migration of such high-level talent is one of the key indicators to look out for in this industry, and the brain drain is currently flowing towards IonQ rather than away from it.
Everyone Wants a Piece
I have been hearing about the future of quantum computing for over 20 years now, and just a few years ago, the hype and hope coalesced into something tangible. The initial development stage of the technology is over, and the implementation phase has begun. The first generations of working quantum computers are here, and the tech sector is thirsty for access to this hardware. To give you an idea of the level of demand for the trapped-ion version of the technology, I found 24 separate entities that have formed partnerships with IonQ.
This is likely an incomplete list:
- Microsoft - November 2019
- Goldman Sachs (GS) - Q3 2021
- 1QBit - October 2020
- Cambridge Quantum Computing - October 2020
- Honeywell- November 2021 Via Merger
- AWS - December 2019
- QCI - September 2021
- Accenture - September 2021
- Q-CTRL - May 2021
- Zapata Computing - August 2022
- University of Maryland - September 2021
- Multiverse Computing Partners - November 2021
- Fidelity Center for Applied Research - Q1 2021
- GE Research - Q3 2021
- Samsung - October 2019
- QCI - September 2021
- Bosch - November 2019
- U.S. Air Force Research Lab - September 2022
- Hyundai Motor Company - December 2022
- Oak Ridge National Laboratory - Q4 2021
- DARPA - April 2022
- Airbus - August 2022
- Dow - January 2022
- Dell - November 2021
Long-Term Trends
The quantum computing industry is projected to have a CAGR of 36.89% from 2022 to 2030. This $10.13 billion industry is projected to grow to $125 Billion by 2030, representing 1,233.9% growth.
While the industry is still in its early stages, there are already a number of promising developments and potential applications. As more companies begin to invest in quantum hardware and software, the industry will experience significant demand growth.
While it may take years for this trend to build momentum, the ramifications of its implementation and role as a disruptive technology cannot be emphasized enough. This technology will lead to the development of entirely new industries. Similar to how some companies depend on the internet today, there will be companies that depend on quantum computing.
Financials
The company is spending significantly more money developing its manufacturing capabilities than it currently receives in income, which is expected as they are sitting on a large pile of cash and a hot product. As of Feb 15, 2023, IonQ has a market cap of $1.13 billion, trades at a PS ratio of 111.2, and had a share price of $5.65. In the last 4 quarters of operations, Q4 21 to Q3 22, it generated $9 million in sales and incurred $73 million in net losses, and revenue rose from $1.6 million to $2.8 million per quarter, a 75% increase.
Cash, cash equivalents, and investments were $555.8 million as of the most recent earnings report in Q3 2022. Over the last three quarters, since the beginning of development of their manufacturing facility, the company marked up $71 million in Unusual Items, averaging $23.6 million per quarter. So, most of its losses aren't losses from normal operations but rather the cost of expansion.
The most concerning thing here is that Selling/Gen/Admin + Labor Expenses have been slowly rising and are up to $12 million per quarter. This company employs a large number of PhDs, and those don't come cheap. Without including the cost of new construction, the present rate of revenue increases will overtake the present rate of Selling/Gen/Admin + Labor increases in about 2 ½ years. By my estimates, with the $9 million per quarter operational shortfall expecting to steadily shrink over the next 10 quarters, the company should lose between $50 and $60 before the shortfall is overcome.
In the meantime, the company will continue to eat into its considerable assets to pay for both expansion and operating costs. The company only recently became operational and has already had success securing a large number of long-term contracts with customers. As demand for quantum computing picks up, so will their revenue. As much as the current situation is less than stellar, when looking at this from a long timeframe perspective all of this is perfectly normal. This company is on track to being viable.
Valuation
This company's Enterprise Value is currently $742.1 million with a Price/Book Value of 1.76. However, its P/S ratio of 111.2 is not attractive to most value investors. In early 2023, growth stocks have been hit hard by the Federal Reserve's fight against inflation, yet this company, which is not yet profitable, still trades at a P/S ratio above 100. This demonstrates how bullish the tech sector is about quantum computing, particularly trapped-ion quantum computers.
It's essential to note that the stock market is forward-looking, and many people have a long-term horizon for their investments. Enough investors believe in this company's future potential that despite hemorrhaging $20 to $25 million per quarter, the company is trading 76% above its Book Value. This bullish sentiment is a positive sign that the company is likely to trade at an unusually high P/E ratio once it shows net revenue.
Risks
While IonQ is expected to be a significant player in the quantum computing field, it's not the only player. Other well-established companies such as IBM, Microsoft, and Google are also investing in this technology. They could buy out IonQ or engage in a price war that may negatively impact the company.
The company is currently building their primary facility in Bothell, Washington. Bothell is affected by both the Seattle Fault and the Cascadia Subduction Zone. Extremely large earthquakes have the potential to damage the building and equipment inside. Even low and no damage events will cause manufacturing delays as high-precision manufacturing equipment has to be recalibrated after disturbances.
The projected increase in global demand for quantum computing may not materialize as quickly as anticipated. If enthusiasm wanes before quantum computing actually becomes useful to us, the hype around the technology will diminish. This is commonly referred to as Quantum Winter. If this happens, funding will dry up and the valuation of the entire sector will drop, including IonQ. Super-cycles like this typically take quite a while to play out so if winter sets in, I expect it to take years for enthusiasm to return to present day levels.
Catalysts
The completion of the company's new facility is expected to be a boon for the company's fundamentals, though it may not cause an immediate rise in share prices. Additionally, I expect the company to become net profitable within the next few years, which could significantly increase its share price. News announcements related to the disruption quantum computing causes will lead to increased public awareness, which may lead to regular cycles of retail driven euphoria-based rallies.
Conclusion
Investing in quantum computing represents a significant opportunity for those who believe in the technology's long-term potential. The trapped-ion version of the technology looks like it will be one of the most successful, and IonQ is presenting itself as one of the best pure plays in the sector. Since the sector is still in the development phase, and hasn't even truly entered consolidation yet, its best to adopt a Darwinian mindset. It's still too early to tell if we are going to eventually end up with a VHS vs Betamax situation where one version of the technology significantly out-sells its competitor and dominates the market, or if we are going to end up with a diverse field where a variety of quantum computing technologies are all employed in the niche applications they perform best at.
Investment Plan
While I think IonQ is a buy, it's not necessarily a great buy at any price. The company has already crossed the threshold where it looks like it will eventually succeed, but it's not yet profitable, and it may not be profitable for many years. I have established a small position in IONQ and plan to slowly add to my position at bottoms over the next year or so. Because of the risk of quantum winter, I am not planning on growing this position to significant size until the company's financials improve to the point that it is on the verge of posting net income. If or when sentiment sours and Quantum Winter does set in, I will reassess the competing technologies as they are at that time, and then buy the dip on the most competitive pure plays. I suspect that will mean buying more IonQ.
This article was written by
I am an Electromechanical Engineer. I have six degrees and teach Circuit Analysis for a living. I have been paying attention to markets since the late 1990's. I began taking classes on economics when I was 15,and was a business and economics major my freshman year. If I hadn't fallen in love with the Engineering classes I was taking as electives, I would probably have followed up on my dream of running my own small business.I am a value investor and have studied the greats (Benjamin Graham, Warren Buffett, Charlie Munger, Peter Lynch, ect), but my personal investing style is most closely aligned with Mohnish Pabrai.Because I have been obsessed with strategy games and Game Theory since childhood, I tend to evaluate companies based on the quality and number of edges they have collected vs their peers, and how well I expect their strategy to perform in the everchanging meta. I am drawn to innovation, typically have a long timeframe outlook, and am always hunting for potential multibaggers.
Analyst’s Disclosure: I/we have a beneficial long position in the shares of IONQ either through stock ownership, options, or other derivatives. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.
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