Skyworks' Success Yet to Be Reflected in the Market

Skyworks Solutions (SWKS) makes analog and mixed signal semiconductors that work mainly with mobile devices and wireless connectivity. Headquartered in Woburn, Massachusetts, SWKS has been winning contracts with mobile device makers because of its ability to give devices said increased functionality. The company is known for its expertise in radio frequency, front-end modules and power amplifier technologies. Technically speaking, I am already in over my head, but we—at Ockham Research—believe the fundamentals of this company suggest that it is Greatly Undervalued.

Skyworks makes the internal chips for smart phones such as the power amplifier for the iPhone. These days, consumers are using their phones for more than simply making calls. Smart phones have become a virtual computer in your pocket and after having this kind of connectivity to the world it is difficult for consumers to go back to just a standard phone. Skyworks is one of the main companies that has enabled the smart phone revolution to take off. We think that the growth that Skyworks has started to experience will be sustainable as mobile device technology and connectivity will likely only become more pervasive in our society.

Skyworks will be reporting 4^th quarter earnings on November 6^th after the close, and if the last two quarters are any guide, we anticipate strong performance. When Skyworks reported earnings for the second quarter in April the markets cheered as it beat EPS estimates ($.16 versus $.15 estimate), revenue estimates, and raised its guidance. The stock was up 15% that day. This continued into the third quarter where again the company beat those raised expectations for both EPS ($.18 versus $.17 estimate) and revenue. Analysts are again calling for improved earnings as estimates range from $.19 to $.21. We tend to agree that this earnings trend will continue to improve as iPhones in particular, but more broadly, all smart phones are selling fairly well even as consumer spending has faltered. Just something to consider, but no need to spend too much time speculating on something that will be made known next week.

So, why then with all of these positive factors working in SWKS' favor is the stock trading for less than the day before it reported earnings in April? The simple answer is the massive sell-off in the broad market has put downward pressure on all stocks, even those of attractive companies. SWKS sales are growing at a 15% rate and its gross margin is 42%. The company’s successes have not yet been reflected by the market. Since the company came into existence from the merger of Conexant Systems and Alpha Industries in 2002, the market has been willing to pay between 9.06x and 22.07x in price-to-cash flow. However, even after the last few strong quarters, the stock is selling for a paltry 5.87 times cash flow. The current price-to-sales of 1.05x is slightly below the historically normal low end of the range of 1.11 times.

We think there is substantial upside to this stock as there is an undeniable and growing trend towards mobile functionality. For under $7 per share, we think that this company represents a good value play in technology—which happens to be our most undervalued sector as a whole this week.

Comments

[synapsid_on_SI:]

SWKS has done well in meeting earnings expectations over the last two years, but I don't think you can characterize it as a "smartphone" pure-play.

SWKS has only one of four PA components in the 3G iPhone (selling for $1), while TQNT has three (selling for about $4.50). SWKS does have good exposure at RIMM. But generally 3G, which a lot of smartphones use, is not the area of greatest strength for SWKS at the moment.

As the company alluded to in their recent conference calls, they increased their market share a lot in the low-end segment for "single-chip phones" where they are providing the PA/front-end module. These partnerships with companies like MediaTek, TI and other baseband providers have been providing revenue momentum for SWKS and could be an area of strength (particularly MediaTek which saw very strong baseband shipments in the September quarter).

With the ecomonic crisis it's really hard to say how much SWKS will be affected. Accounts such as RIMM could be affected. In the low-end of the market some reports say that handset volumes won't be affected as much by the crisis as high-end handsets, which could be a positive for SWKS, but on the other hand price pressure for these PA components could increase.

2008 Oct 31 07:58 PM