2 Hot Chip Makers To Buy Now And Ride Higher In 2013

 |  Includes: AMAT, AMD, INTC, KLAC, SPY, XLK
by: Dividend Kings

Now that decades have passed since the beginning of the computing and internet revolutions, the tech sector has lost its luster. This fall from grace is apparent in how the firms of the SPDR Technology Selector Fund (NYSEARCA:XLK) trade at an average 15 price-to-earnings ratio which is only slightly higher than the 14 price-to-earnings ratio of the S&P 500 (NYSEARCA:SPY) fund companies. Apparently, tech is no longer the darling of investors and the sector has nearly the same valuations as the broader stock market.

Investors can seize the opportunity offered by the market today by reviewing the challenges faced by different tech stocks that are priced as value investments. In particular, semiconductor manufacturers and their suppliers are frequently trading at attractive multiples in today's markets. Are they value investments or value traps?

C-Level Regime Change

Advanced Micro Devices (NYSE:AMD) CFO Thomas Seifert announced he will be leaving the company. Seifert had only been with the company for three years, but he had the longest tenure of any C-level executive at the company.

While all PC makers and PC component makers are feeling the blow from the rise in popularity of tablets and smart phones, analysts say that Advanced Micro Devices suffers internal execution problems as well. In July the board had to take dramatic measures after underperforming in both China and the European market.

Seifert had been chosen as the temporary CEO after the removal of Dirk Meyer from the position. Meyer was reportedly pushed out after the company failed to successfully integrate into the growing mobile and smartphone market. The new CEO Rory Read's arrival has confirmed Seifert's decision to leave and was followed by the resignation of several respected, top engineers and senior executives. Those close to Seifert within the company cited that one of his reasons for leaving was to seek a permanent position as a CEO.

A CFO leaving is usually bad. It often marks the refusal to acquiesce to CEO pressures for aggressive accounting. In this case, there is an acceptable backstory about Seifert being effectively passed over and having to return to a second-fiddle position. Even if this truly was his motivation for leaving, the next CFO can use the regime change as an excuse to recognize losses while blaming it on the old CFO. This is much more common when a new CEO takes the reigns, which is also happening at Advanced Micro Devices.

Component Ecosystem Shakeup

The bad news doesn't end with chip makers. First, personal computer sales suffered, sending shocks throughout the companies which contribute to the industry. Lower PC demand reduced revenue for computer distributors. The distributors responded by lowering component orders. Component manufacturers such as chip-makers respond to lower sales by slashing budgets for new equipment used to make computer chips. Thus, weak PC sales are being passed through to companies that provide component-making equipment.

Applied Materials (NASDAQ:AMAT) is one such company, and this major producer of chip making machines plans to reduce its workforce by 9 percent. This measure could reduce headcount by 900 to 1300 employees while saving $140 to 190 million per year.

The earnings of Applied Materials can act as a barometer of electronics industry optimism. According to market researchers, the PC market will grow by less than 1 percent in 2012 which forecasts the worst market in 10 years. This would translate to slower orders for PC components and could prompt companies like Intel (NASDAQ:INTC) to reduce spending. Intel is one of Applied Materials' major customers.

Applied Materials has reduced its industry-wide factory-equipment sales guidance to $30 to $33 billion, lower than previous estimates of $32 to 35 billion. The company's forecast for its own sales in its fiscal fourth quarter was lower than those estimated by analysts.

Reconciling Valuations

Are there any chip makers in the value chain that offer compelling value? Consider the following financial metrics:



Semiconductor Industry






Advanced Micro Devices

Broad Line






ON Semiconductor

Broad Line







Broad Line






Applied Materials

Equipment & Materials







Equipment & Materials







Broad Line






Lam Research

Equipment & Materials







Equipment & Materials





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Without profit over the past year price-to-sales and price-to-free cash flow multiples bear out that Advanced Micro Devices is cheap relative to its peers. Investors should take heart because the drama of a management change and its ongoing issues are priced into the stock. However, they should be concerned that the assets are financed almost two thirds by debt. This indicates that AMD shares are speculative.

Hard times at Applied Materials is also priced into its share price, making it cheaper than other semiconductor equipment & materials stocks based on price-to-sales and price-to-free cash flow metrics. Unlike Advanced Micro Devices, debt levels at Applied Materials are no cause for concern.

Intel and Teradyne offer the most value on the basis earnings. Either of these stocks trades below a bargain 10 price-to-earnings multiple. KLA-Tencor is not far behind. These earnings multiples would be unthinkable during the tech bubble.

Interestingly, three of these stocks also return capital to investors in the form of dividends:


Div Yield

Payout Ratio

Applied Materials









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Each of these payout ratios is sustainable.


There is no question that these are tough times for semiconductor firms. However, bleak industry scenarios are common backdrops for savvy value investments. In particular, Intel and KLA-Tencor provide attractive price multiples with dividend income. They are arguably as cheap as Applied Materials and Advanced Micro Devices, yet sidestep much of the drama unfolding at these troubled companies. Their lower risk and comparable discounts make KLA-Tencor and Intel shares better buy candidates.

Disclosure: I have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.