Substantial Upside Remains in 12 High Growth Semiconductors

by: Joe Kunkle

Many of the stocks I am going to present below have already doubled or more in 2010, so your first instinct may be that these stocks are too risky, over-valued, or are over-extended. However, history has taught us with trading that momentum can last a whole lot longer than most would think, and as you wait around for a lower price to buy, these stocks tend to continue much higher, and are the types of stocks that can become 5 or 10 baggers.

We are in the early cycle of growth in the Semiconductor industry with spending expected to increase substantially next year as corporate budgets expand with the economy showing strong signals of a rebound, and the move to mobile gadgets and tablet computers also in the early stages. Companies are looking for chips to be used in their products that are faster, more efficient, and offer a cost advantage. I also suspect that many of these small cap, high growth chip companies will be seen as acquisition targets with the larger chip companies having record amounts of cash on the balance sheets, and looking for a way to generate growth, and a high return on investment.

I set up a fairly simple screen to scan for companies with 30% EPS growth Q/Q, 25% Sales Growth Q/Q, Positive Net Profit Margins, Volume of 100,000+ Per Day, and EPS Growth Forecast Next Year for At Least 20%. The scan looks to be a success, as most of the names I found are all trading in sharp uptrends and seeing large increases in daily trading volume, so institutions are beginning to get involved.

I want to focus on the Semiconductor results, and will highlight each of them below, but as a bonus I will just note that the following names also made it through the screen among Tech stocks, many of them software companies. These included Rightnow Tech (NASDAQ:RNOW), RealPage (NASDAQ:RP), JDA Software (NASDAQ:JDAS), Qlik Tech (NASDAQ:QLIK), Sapient (NASDAQ:SAPE), Acme Packet (NASDAQ:APKT), Telestone Tech (NASDAQ:TSTC), American Superconductor (NASDAQ:AMSC), KEMET Corp (NYSE:KEM), VanceInfo (NYSE:VIT), (NASDAQ:ACOM), (WWWW), 3D Systems (TDSC), Kit Digital (OTC:KITD), Finisar (NASDAQ:FNSR), Super Micro (NASDAQ:SMCI), Flextronics (NASDAQ:FLEX), TTM Tech (NASDAQ:TTMI), DDI Corp (NASDAQ:DDIC), Mentor Graphics (NASDAQ:MENT) and Sourcefire (NASDAQ:FIRE).

As for the Semiconductor stocks, all but 2 are under $1B in market cap, and most are under $20. The following 12 Semiconductors are all worth a look on the long side for high growth exposure in a hot industry.

  1. Entropic Communications (NASDAQ:ENTR): Entropic is a $987M company that trades rich on most metrics, 5.66X sales, 53.4X trailing earnings, and 62X free cash flow, but sales grew 98% quarter/quarter and EPS grew nearly 1,000%. There is a 17.85% short float in the name and shares just broke out to all time highs. Analyst coverage is minimal in the name, but Stifel recently reiterated a Buy and $14 target. The company makes chips that allows for multiple streams of High Definition signals to be delivered throughout homes, and also other home networking products. With market trends such as increased HD penetration, whole-home DVRs, and 3D TV's requiring more bandwidth, this market leader is set to continue on as a growth play. Non-GAAP operating margins have come in at 15%, 24%, and 28% the last 3 quarters, so profitability continues to expand.
  2. Intersil (NASDAQ:ISIL): Intersil is one of the larger names to make the cut, with a $1.89B market cap, shares trading 2.34X sales, 23.7X free cash flow and 101.3X trailing earnings. There is also a 12.37% short float, 5.77 days to cover. Canaccord recently raised shares to Buy with a Street high $18 target. Intersil grew sales at a 30% clip quarter/quarter and EPS at 157%. Intersil is an analog chip name with chips in products such as flat panel displays, cell phones, and notebooks.
  3. Spreadtrum Communications (NASDAQ:SPRD): Spreadtrum is a China based Semi that trades 3.1X sales, 4.3X cash value, and 11.5X forward earnings. Sales grew 150% quarter/quarter and EPS grew 2,675%. HSBC recently raised its price target to $19.70. Spreadtrum is a player in wireless communications chips, and the China handset market is rapidly growing. Mediatek dominates the market but Spreadtrum is gaining ground in market share.
  4. Microsemi Corp (NASDAQ:MSCC): Microsemi is the largest company on the list, mainly due to a recent surge in shares, now with a $2B market cap. Shares trade 12X forward earnings, 4X sales and 22.4X free cash flow. Sales grew at a 38% clip quarter/quarter, while EPS grew 120.6%. Microsemi is an analog and mixed signal semiconductor with chips in high growth products such as MRI Body Scanners, Flat Pnael TV's, Solar Energy, Smart Grids, LED Lighting, and Ethernet for Satellite Communications. Microsemi is a diverse play with 43% of sales devoted to defense & security, 20% to Aersopsace, 21% to Commercial, and 16% to Industrial and Alt. Energy. Operating margins have steadily increased the past 4 quarters, currently at 22%, with a goal of 30%.
  5. Applied Micro Circuits (NASDAQ:AMCC): Applied Micro shares trade 2.8X sales, 19X cash flow and 17X forward earnings. Sales grew at a 34% rate quarter/quarter, while EPS grew 144%. Applied Micro generates 42% of sales from transport and datacom products, and 52% from embedded products. My research into this one left me unimpressed, and is not as interesting of a growth story as the others.
  6. Smart Modular Technologies (NASDAQ:SMOD): Smart Modular is not just a growth play with 119% sales growth quarter/quarter and 5,670% EPS growth, but also a great value at 6.6X earnings, PEG of 0.5, 0.59X sales and 3.6X cash value, trading cheaper than most insurance stocks. Wedbush recently cut its price target to $7 on shares. Smart Modular is a memory chip player, with DRAM and Flash components, an industry set to surge as flash memory solutions are smaller and everything is converting to mobile and handheld devices. Smart Modular also has a lot of Brazil exposure, a high growth PC market.
  7. Ultra Clean Holdings (NASDAQ:UCTT): Ultra Clean Holdings is a $201M Semi that trades also as not only a growth play, but a value play. Shares trade 7.85X earnings, PEG of 0.56, 0.5X sales and 7.3X cash value. Sales grew 187% quarter/quarter and EPS grew 538.7%. Needham recently reduced its price target to $10 for shares. Ultra Clean is a leading supplier of gas delivery systems and is expanding to flat panel, medical and energy markets (Solar/LED). It is a leading supplier to Intuitive Surgical (NASDAQ:ISRG) for its surgical robots.
  8. Mindspeed Technologies (NASDAQ:MSPD): Mindspeed is another micro cap with a $213M market cap, shares cheap at 9.6X earnings, PEG of 0.55, 1.2X sales and 14X free cash flow. Sales grew 65.85% quarter/quarter and EPS grew 820%. The company recently issued cautious Q1 guidance, but at this valuation the downside appears limited. Minspeed's chips are used in high-speed routers, switches, and other network infrastructure equipment. its 4G/LTE wireless broadband processor was recently awarded the 2010 mobile excellence award, and with the market heading towards 4G, Mindspeed could be set to capture further business.
  9. RDA Microelectronics (NASDAQ:RDA): RDA is another China based chip name, a recent IPO, and shares trade 13.3X earnings and 4.25X sales. Sales grew 66% quarter/quarter and EPS grew 257%. The company's chips are in cellular and other broadcast products. RDA is a pure play on the emerging chip market in China.
  10. Kulicke & Sofa (NASDAQ:KLIC): Kulicke & Sofa is another fascinating value and growth play, the $545M market cap company's shares trading 5.9X earnings, PEG of 0.3, 0.72X sales, and 6.6X free cash flow. Sales grew 135% quarter/quarter and EPS grew 857%. Shares have gained more than 30% since giving a weak Q1 forecast on November 11th, so the price action is very telling in this case. Kulicke is more of an assembly play with its products assisting in the packaging and assembly of next generation chips. its largest customers include Texas Instruments (NYSE:TXI), Intel (NASDAQ:INTC), Samsung, and Advanced Semi (NYSE:ASX).
  11. LTX Credence (LTXC): LTX Credence shares recently jumped after Verigy made an offer to buy the company but that deal is now in question with a company offering to buy out Verigy. LTX Credence remains a great value and growth name with shares trading 6.25X earnings, PEG of 0.57, 1.47X sales and 3.2X cash value. Sales grew 81% quarter/quarter and EPS grew 627%. Stifel raised its target to $10 for shares on Friday, 33% higher than it currently trades. The Automated Test Equipment (ATE) market is highly cyclical and 2010 is the first year of a multi year growth cycle. The company has set very high goals for market share gains and revenue growth, and is the industry leader in gross margins.
  12. EZchip Semi (EZCH): EZchip Semi has been a high flier of late and does not fit into the value mold, shares at 21X forward earnings, 12.55X sales, and 7.8X cash value. The Israeli maker of ethernet network processors is the market leader in high speed NPUs. Some of its customers include Cisco (NASDAQ:CSCO), Ciena (NASDAQ:CIEN), Marvell (NASDAQ:MRVL), Arris (NASDAQ:ARRS), Juniper (NYSE:JNPR), and Ericsson (NASDAQ:ERIC).

Three names that did not make the cut on the screen but are worth a further look include MIPS Technologies (NASDAQ:MIPS) as a play on the Google Android gaining market share, Atmel Tech (NASDAQ:ATML) as a leading chip provider to tablet PC's, and TriQuint Semi (TQNT) as an Apple iPhone play.

I feel a basket of these stocks will outperform in the coming year, and at least hope I provided a starting point for more research in some of the high growth Technology plays.

Disclosure: I am long ENTR, ATML, TQNT, MIPS.