The equity of the United Microelectronics Corp. (NYSE:UMC) has been the Rodney Dangerfield of U.S.-traded semiconductor foundry stocks for most of the past decade: It doesn't get no respect. This disrespect has led the company's American depositary shares (ADSs) to be undervalued by an estimated 21.20 percent Friday, even with the Semiconductor Industry Association (SIA) indicating the same day that the global semiconductor industry is on pace to report record revenue for last year.
UMC closed Friday at $2.00, almost at its median of $1.99 for 2013, when it reached its 52-week closing low of $1.72 on April 15 and its 52-week closing high of $2.36 on both July 1 and July 11. Complementing fundamental analysis of the equity, seasonality analysis of the stock since its inception suggests such recurring extremes during the first half of the year also may make it attractive, not to investors but to traders. UMC's illiquid options market means these occasionally bullish opportunists (such as myself) have been, are, and will be more likely to employ shares than either calls or puts in their long-side operations in what Nasdaq.com has reported to be a heavily shorted security.
Meanwhile, insiders hold about 6.45 percent of the shares, and institutions hold about 6.84 percent of them, according to the same source.
One reason for the UMC equity's lackluster performance in 2013 was the company's lackluster performance in 2012. The information-technology research firm Gartner Inc. reported that among global semiconductor foundries ranked by revenue that year, Taiwan Semiconductor Manufacturing Co. Ltd. (TSM) was No. 1 with $17.13 billion, revenue expansion of 17.9 percent, and a market share of 49.5 percent; the privately held GlobalFoundries was No. 2 with $4.20 billion, revenue expansion of 17.3 percent, and a market share of 12.1 percent; and UMC was No. 3 with $3.60 billion, revenue contraction of 0.1 percent, and a market share of 10.4 percent.
Figure 1: Comparison Of TSM And UMC ADS Prices Between Sept. 20, 2000, And Jan. 3, 2014
How United Microelectronics Makes Its Money
Comparisons between Taiwan Semiconductor Manufacturing Co. Ltd., or TSMC, and the United Microelectronics Corp., or UMC, are inevitable because both Hsinchu, Taiwan-based companies compete for business in the manufacturing of integrated-circuit wafers for fabless semiconductor firms. In the third quarter of 2013, fabless customers accounted for 87 percent of total wafer revenue at TSMC and 86 percent of it at UMC, according to the companies.
Especially in the areas of profit margins, investment returns, and free cash flow, the comparisons of TSMC and UMC have led Mr. Market to reward the former and punish the latter over the past decade. In terms of New York Stock Exchange trading, TSM began Oct. 9, 1997, and UMC started Sept. 20, 2000.
Describing itself in the U.S. Securities and Exchange Commission Form 20-F for 2012 UMC filed last April 26, the company said:
"Our primary business is the manufacture, or 'fabrication,' of semiconductors, sometimes called 'chips' or 'integrated circuits,' for others. Using our own proprietary processes and techniques, we make chips to the design specifications of our many customers. Our company maintains a diversified customer base across industries, including communication, consumer electronics, computer, and others, while continuing to focus on manufacturing for high growth, large volume applications, including networking, telecommunications, internet, multimedia, PCs and graphics. We sell and market mainly wafers which in turn are used in a number of different applications by our customers."
UMC's top 10 customers accounted for 64.5 percent of its revenue in 2012, the company said in the same filing.
UMC reported its foundry segment sales broken down by application during Q3 were as follows: communication, 52 percent; consumer electronics, 28 percent; computer, 16 percent; and others, 4 percent. As the company inexorably wends its way down the nanoscale, with an array of 28-nanometer chips already a commercial reality, its semiconductors are incorporated in multiple products in these categories, including the smartphones and tablets the privately held market-research firm International Data Corp. forecasts will continue to drive global IT spending as it speeds up in 2014 after a slowdown in 2013, as I noted at Examiner.com.
Because of its competition for the business of fabless semiconductor firms not only with crosstown rival TSMC but also with GlobalFoundries and others, UMC reported in an SEC Form 6-F it filed Thursday that its directors OK'd last month a capital-expenditures budget of about $599.94 million, which is a pretty big chunk of change for a company with a market capitalization of about $5.28 billion. Nonetheless, the capex should eventually help UMC build on the return to revenue growth it had during the first 11 months of 2013, when the company recorded 6.49 percent more in sales than it had over the same period of 2012.
Figure 2: UMC Foundry Segment Sales Breakdown By Geographic Region In 2013's Q3 And Q2
United Microelectronics Stock Appears Undervalued By 21.20%
Analyses of the financial statements filed with the SEC by TSMC and UMC are not for the faint of heart among American individual investors and traders. In my own crunching of their respective numbers over the weekend, I had to constantly account for three basic issues, as follows:
• Both companies report not in U.S. dollars but in New Taiwan dollars. In the fundamental analyses underlying this article, I assumed NT$1 was worth US$0.033 when conducting all the conversions between currencies. In the article itself, I am reporting all currency figures in U.S. dollars, except where noted to the contrary.
• Generally accepted accounting principles in Taiwan and the U.S. are not identical but similar. These differences had effects mostly in the interpretations of the balance sheets of the two firms. Neither balance sheet is a beautiful thing, but it is worth noting the disparity between the current ratios I calculated, 2.28 for TSMC and 1.70 for UMC.
• One ADS of each firm represents five common shares. The ratio is easy to remember in the context of the real world, but simple to forget in the context of a spreadsheet with about a zillion cells.
These analytical challenges appear to have had no important impacts on the respective valuations of TSM and UMC, as I found the former equity to be fairly valued and the latter stock to be undervalued. If the degree of analytical difficulty were a significant factor, then I would anticipate both securities to be undervalued.
In conducting the fundamental analysis of any equity, I determine the ideal maximal price at which I first would like to buy it (i.e., my so-called buying price) and the ideal minimal price at which I then would like to sell it (i.e., my so-called selling price). In the case of TSM, these ADS figures are $13.57 and $18.10, in that order. In the case of UMC, these ADS numbers are $2.42 and $3.23, respectively. Because TSM closed at $16.95 Friday, I consider it fairly valued, and because UMC closed at $2.00 the same day, I consider it undervalued by 21.20 percent. I therefore expect TSM to be range-bound and UMC to eventually rise toward the range between my buying price and my selling price.
Figure 3: Comparison Of TSM And UMC Price-To-Book Value Ratios From 2009 To 2013
Figure 4: Comparison Of TSM And UMC Price-To-Earnings Ratios From 2009 To 2013
My 2014 Game Plan For United Microelectronics Stock
UMC anticipates it will report its December revenue by next Friday. If the sales figures are good, then the equity should rise; if the sales figures are bad, then the stock should fall. Because of my fact-based opinion that the security is currently undervalued, I most likely will begin legging into a small long position in the wake of this revenue report. In doing so, I will be guided by my unique blend of fundamental, sentiment, and technical analyses, which encompass the seasonality analysis mentioned at the outset of this piece.
My seasonality analysis of 13 full years of UMC equity-trading data indicates I should expect in 2014 (1) a tradable bottom in or around Q1, (2) a tradable top in or around Q2, and (3) to exit my position by the dawn of the second half of the year. Complementing the conclusions of my UMC seasonality analysis is the coming change in leadership at the U.S. central bank, which is discussed in "The Dow And The Federal Reserve's Transitions."
In my UMC operations during the first half of the year, I believe a total return of between 10 percent and 20 percent would be reasonable, with potential key catalysts identified by my seasonality analysis being the company's monthly revenue reports and quarterly financial reports, as well as the announcement and payment of the firm's annual dividend.
UMC's next quarterly financial report may arrive around Jan. 24, and it might say the company booked $1.02 billion in revenue and 0 cents in earnings per ADS in Q4, according to the lone analyst cited by Yahoo! Finance. Of course, single-analyst estimates are subject to pretty large margins of error.
The announcement and payment of UMC's next annual dividend may happen in the June-July period, based on the company's dividend history.
Meanwhile, UMC, the Rodney Dangerfield of U.S.-traded semiconductor foundry stocks for most of the past 10 years, still seems more suited for dating and less suited for marrying.
Many risks associated with UMC as either an investment or a trading vehicle are well described on pages 6-23 of the company's most recent SEC Form 20-F. Among them are risks related to a competitive marketplace, a concentrated customer base, currency fluctuations, economic cyclicality, geopolitics, and others unique to firms with ADSs. One big risk to my own UMC valuation is the five-year forecasted EPS growth rate of 20 percent published by our droogies at Zacks.com. A few risks associated with anything as either an investment or a trading vehicle include changes in the monetary policies of the Federal Reserve and other central banks around the world. Along this line, it is important to note the Federal Open Market Committee will conduct its first meeting of the year on Jan. 28-29, when it may choose to continue tapering its current quantitative-easing program.
Disclaimer: The opinions expressed herein by the author do not constitute an investment recommendation, and they are unsuitable for employment in the making of investment decisions. The opinions expressed herein address only certain aspects of potential investment in the securities of any companies mentioned and cannot substitute for comprehensive investment analysis. The opinions expressed herein are based on an incomplete set of information, illustrative in nature, and limited in scope, and there are limitations to their accuracy. The author recommends all investors conduct detailed investment research of their own, including review of relevant SEC filings and consultation with a qualified investment adviser. The information upon which this article is based was obtained from sources believed to be reliable, but it has not been independently verified, which means the author cannot guarantee the accuracy of this information. In addition, the opinions expressed herein reflect the author's best judgment as of the date of publication, and they are subject to change without notice.