Four chip stocks wired to ride long-term tailwinds

The trade war's taken a toll on the tech sector, but there's still a long runway of growth for the semiconductor industry, and these chipmakers are programmed to take off

Vikram Barhat 14 August, 2019 | 3:19AM

Microchip

Chip stocks are having a tough time the last little while. Against the backdrop of tech slide, chipmakers have taken a shellacking due to the ongoing U.S.-China trade war. The fraying relations between the two economic powers have rendered the semiconductor industry particularly vulnerable given that China relies on American technologies, while U.S. chipmakers need Chinese buyers.

In spite of the recent volatility, though, the PHLX Semiconductor Index (SOX) has had a strong run so far this year. The index has clocked 25% gains outpacing the S&P 500’s 16% gains and over 18% rise in the NASDAQ, as of August 07.

Longer term, the outlook for the semiconductor industry remains cheery, supported by forecast of a threefold growth in the global number of IoT-connected devices (43 billion) by 2023. The global market for semiconductors, regarded as the linchpin of the connected world, is projected to grow from US$481 billion in 2018 to US$575 billion by 2022, growing nearly 5% per year.

Worldwide spending on the Internet of Things is forecast to reach US$745 billion this year, a 15.4% year-over-year jump, and is projected to ring up a double-digit annual growth to exceed US$1 trillion by 2022. This creates a long growth runway for chipmakers, particularly those with exposure to IoT, memory, artificial intelligence, and automotive industries. The following quality names are trading at significant discounts to their fair value, representing value and meaningful upside.

Intel Corp

 

Ticker

INTC

 

Current yield:

2.70%

 

Forward P/E:

11.07

 

Price

US$46.73

 

Fair value:

US$65

 

Value

28% discount

 

Moat

Wide

 

Moat Trend

Negative

 

Star rating

****

Data as of Aug 08, 2019

Chipmaking behemoth Intel (INTC) designs and manufactures microprocessors for the global personal computer and data centre markets. While Intel’s server processor business has benefited from the mainstreaming of the cloud, the firm has also been expanding into new growth areas including the IoT, memory, artificial intelligence, and automotive.

“With the rise in interconnectivity of devices, Intel strives to provide the most powerful and energy-efficient silicon solution to any product smart and connected,” says a Morningstar equity report, adding that the data centres widely used for information storage and analysis are mostly run with Intel server chips.

Further, as cloud computing continues to attract significant investment, Intel’s data centre group will be an indirect beneficiary. “Mobile devices have become the preferred device to perform computing tasks and access data via cloud infrastructures that require considerable server build-outs,” says Morningstar equity analyst, Abhinav Davuluri, adding that “this development has provided strong tailwinds for Intel’s lucrative server processor business.”

The company has also made a major push into the fast growing field of artificial intelligence (AI) through the acquisition of Altera, Mobileye, Nervana and Movidius, companies that make specialized chips to accelerate AI-related workloads.

Intel has built a wide economic moat on cost advantages and engineering know-how, adds Davuluri who puts the stock’s fair value at US$65.

Microchip Technology Inc

 

Ticker

MCHP

 

Current yield:

1.66%

 

Forward P/E:

14.35

 

Price

US$88.42

 

Fair value:

US$112

 

Value

21% discount

 

Moat

Wide

 

Moat Trend

Stable

 

Star rating

****

Data as of Aug 08, 2019

Microchip (MCHP) is a leading supplier of microcontrollers, or MCUs, which are semiconductors used in a wide variety of electronic devices. More than half of its revenue comes from MCUs.

“We view Microchip as one of the best-run firms within the chip space and especially like the firm’s focus on higher-margin chip opportunities across a wide array of end markets,” says a Morningstar equity report, noting that MCUs and analog chips are not capital intensive since they aren’t overly dependent on leading-edge designs.

The price of these chips make up only a tiny portion of a product’s overall cost, placing greater emphasis on performance than price. “Customers tend to be loyal, and chips have long product lives because switching to a competing MCU could involve redesigning the entire end product,” says Morningstar sector director, Brian Colello, adding that this helps the company maintain high margins and returns on invested capital.

Although Microchip’s strength lies in the 8-bit MCUs, the firm has been gaining ground in the more advanced 16- and 32-bit MCUs space. “As more and more electronic devices become smarter and connected to the internet, Microchip’s MCUs and analog chips stand to benefit,” says Colello, who pegs the stock’s fair value at US$112, and forecasts “healthy demand for Microchip’s products going forward.”

STMicroelectronics NV ADR

 

Ticker

STM

 

Current yield:

1.41%

 

Forward P/E:

16.56

 

Price

US$17.06

 

Fair value:

US$22

 

Value

22% discount

 

Moat

None

 

Moat Trend

Stable

 

Star rating

****

Data as of Aug 08, 2019

European chip giant, STMicro (STM) holds one of the broadest product portfolios in the industry including analog and mixed signal chips, particularly as a supplier to the industrial and automotive industries.

The company had some struggles over the last few years resulting in loss of profitability and market share. However, it has made some structural improvements -- such as exiting certain businesses, and improving product mix and margin profile -- which positions it well to benefit from growth opportunities in microcontrollers, sensors, and automotive products, says a Morningstar equity report.

The semiconductor maker’s exposure to automotive industry spells long-term growth, as government regulations and the demand for safer, greener, smarter cars necessitate increased electronic content per vehicle. “STMicro’s leading analog technologies and strong position in the automotive market are reasons to be optimistic about the future,” says Colello, who appraises the stock to be worth US$22 per ADR.

STMicro’s broad-based analog chips could prove more profitable due to greater demand for advanced infotainment systems, battery management solutions, and sensors associated with new safety features. Additionally, broad-based microcontroller could unlock meaningful growth avenues, more than compensating for the businesses ST recently exited, adds Colello, who forecasts “decent growth and profitability improvement as well as an attractive dividend yield out of STMicro.”

Infineon Technologies AG 

 

Ticker

IFX

 

Current yield:

1.37%

 

Forward P/E:

16.58

 

Price

€16.07

 

Fair value:

€22

 

Value

20% discount

 

Moat

Narrow

 

Moat Trend

Stable

 

Star rating

****

Data as of Aug 08, 2019

One of Europe’s largest chipmakers, Infineon (IFX) makes automotive (over 40% of revenue) and industrial chips, as well as ID cards and security solutions that include semiconductor content. Infineon has divested itself of some less profitable businesses in recent years.

The chipmaker has meaningful “exposure to secular growth drivers in the industrial and automotive chip sectors,” says a Morningstar equity report, noting that the firm should “emerge as a leading supplier for electric vehicles and active safety systems used in cars, with increasing exposure to car ‘infotainment’ systems via its pending acquisition of Cypress Semi.”

As a company that supplies to the automotive chip market, it is well positioned to capitalize on the growing trend of vehicles with advanced powertrain technology and safety systems that require a variety of sensors and power management chips.

Similarly, the company’s exposure to power management circuits could help tap into trends in the electronics industry toward power conservation, not only in green mobility but also in renewable energy solutions like solar panels.

That said, limiting exposure to challenging markets is as much a strategic priority as increasing exposure to promising markets. To that end, “Infineon has done a good job of eliminating unattractive business segments, such as its spin-off of its wireless baseband chip business,” says Colello, whose fair value estimate for the stock sits at €22 per share.

Securities Mentioned in Article

Security NamePriceChange (%)Morningstar Rating
Infineon Technologies AG19.80 EUR-0.97
Intel Corp56.53 USD-0.49
Microchip Technology Inc99.02 USD0.26
STMicroelectronics NV ADR25.39 USD-0.31

About Author

Vikram Barhat

Vikram Barhat  Vikram Barhat is a Toronto-based financial writer specializing in investing, stock markets, personal finance and other areas of the financial services industry. He also writes for CNBC, BBC, The Globe and Mail, and Toronto Star.