As the graph above shows, information technology was one of the poorest performing sectors for all of last 2011 - a lot of which was highly attributable to weakness in tech spending. Though there continues to be some early signs of a rebound in IT expenditures, it inspires little confidence that aside from Apple (OTC:APPL), earnings from some of the sector's heavyweights have not moved the prices high enough. That said, I am inclined to think that it is not reflective of any of the individual companies directly that have recently reported, but more of a consequence of a broader market concern - one that has reached (in my opinion) overbought territory.
After having more time to dissect some recent earnings results of various firms, it seems the concern centers more on the likelihood that operating margins have peaked for several of the top businesses in the U.S. If that is indeed the case, should investors continue to expect incremental improvement in this metric for many equities and thereby make investment decisions? Below, are four chip stocks that deserves long consideration for their position in the continuing popularity of the smartphone and mobile devices market.
Texas Instruments (NYSE:TXN)
Texas Instruments continues to be one of those companies that I just can't wrap my arms around for one reason or another. But I have always felt it is one that continues to be either misunderstood or under-appreciated. The company recently announced disappointing earnings as well as an unfavorable outlook so I get why it has fallen out of favor with Wall Street. However, looking at its numbers entering the New Year, I'm beginning to think that the worst is behind it. A few analysts apparently thought the same upon upgrading the stock.
The company's biggest challenge continues to be its tough competition. With state-of-the-art lower-cost manufacturing in place, this should allow the company to compete more effectively on price without risking margins. Price competition/margin trade-off is a seemingly ever-present concern for investors within the chip sector. Another challenge for the company is convincing investors that it is time to reconsider chips.
I will concede that the upside on the company may be limited, but it is far from a sell when one considers that the company is already (arguably) below its fair market value. Investors should also consider that cash flow conversion question - the extent to which TI is undervalued today really does seem to hinge on just how good the long term margin potential is.
Even though chip stocks had been down overall, it now stands to reason that a rebound may not yet be imminent. Nvidia has been a stock that has taken a beating for the better part of the year, and I don't envision 2012 will bring any more prosperity. The company has been trying to migrate from specializing solely in chips and diversifying into other areas. But investors have not been sold on its ability to execute and it shows in its stock chart where it has lost over 45% of its value.
To its credit, Nvidia delivered a pretty good third quarter, but as seen by Oracle's recent declines, investors were more concerned by the slowness in overall tech spending to see that Nvidia actually produced some decent results. It reported a year-over-year 26% increase in revenue, 5% higher than the previous quarter. The question is, at what point will it see the impact of slower PC sales?
If the company can make more ground in the tablet and smart phone market, it stands to benefit immensely as that market shows no signs of slowing down. But it all hinges on the company being able to forge platform deals with its leaders such as Apple and Google (NASDAQ:GOOG). But that is a big "if" as competition in that space continues to be a "dog-eat-dog" when you factor that Intel also wants a big chunk of that pie.
Nvidia still remains intriguing at this point. While the stock has indeed taken a significant beating for most of 2011 and has hovered near its 52-week low for quite some time, it may be prudent to wait one more quarter until all the dust settles before taking a position. But investors that have a high risk tolerance and are willing to bet on it ability to secure the type of share required to generate growth from higher margins may consider it at any point.
Atmel may prove to be the value play of the year because it is currently resting right around its 52-week low for the year. The company disappointed investors when it reported Q3 earnings results. Though it announced a 15% increase in revenue from the previous year, that number was flat on a quarter to quarter basis.
The fact of the matter is, if any stock can perform a double in 2012, it would be a great candidate. The company's shares have eroded (in part) due to the declines in the market, but also due to some failures in execution by its management. But at its current valuation, it looks like a steal considering it is trading considerably below its book value.
The company has been and will continue to be a great name in its space and it seems that Wall Street knows this. As the stock now stands at $9.36, even the highest sell-side analyst has a 12-month price target on the stock of $18. As noted previously, there are some challenges ahead for the company, but I can't pass up what appears to be a easy double on the stock - particularly one that is held by over 80% of institutions.
ARM Holdings (NASDAQ:ARMH)
As Intel continues to try to prove that it still deserves respect, not only is it being downgraded, but new-comer ARM Holdings has seemingly come out of nowhere and have stolen all of its glory. To make matters worse, it seems these same analysts that are discounting Intel's growth potential are now embracing ARM for a completely opposite set of reasons - even though they compete in the same markets. Go figure.
Well, it just might be deserved as ARM has capitalized on the explosive growth of smart phones and tablets. The company has come out of nowhere to give Intel a run for its money. Though the company has been around for quite some time, it has been relatively unknown until Apple regained its prominence and the smart phone game was in full mode. But it wasn't until Microsoft (NASDAQ:MSFT) announced that it will build its next generation of Windows with chips using ARM's technology that its name really took off.
You can draw your own conclusions as to why Microsoft opted for ARM instead of Intel, but clearly it was a positive for ARM and was only the beginning. The company then went on to forge relationships with several prominent tech giants. Given that ARM already owns 75% of the mobile processing market, further tablet and smart phone proliferation will generate instant growth for the semiconductor maker. With no slowness of that market in sight, ARM should be considered in any portfolio with reasonable time horizons.