II-VI Incorporated: Strengths Outweigh Weakness

Summary

• Strong key metrics.
• Strengths outweigh any weakness.
• Analysts have shares trading at a big discout.
• Share price provides for low risk entry with massive upside potential.

The company

II-VI Incorporated (IIVI) develops and manufactures engineered materials and optoelectronic components through three segments, II-VI Laser Solutions, II-VI Photonics and II-VI Performance Products. Products from all three segments are used in industrial materials processing, optical communications, military uses, consumer electronics, semiconductor equipment, life science and automotive applications, according to the company's most recent 10-K. The company's strengths can be seen in their ability to manage debt and expand their margins. With a current share price of $38.10, I believe IIVI is trading at a huge discount.

Highlights

Revenue for IIVI continues to come in higher YoY greatly exceeding the industry average. In the most recent quarter, revenue grew 21.42% from the same quarter a year ago. This has been the continued trend for the company as their full-year 2017 revenue grew 17.51% from the previous year. Although this has seemed to been trickling down, the rate of bottom line growth has seemed to slow as YTD, EPS has grown -2.78% and 5.41% in Q1 and Q2 compared to 33.33% and 23.33% in 2017. FY 2017 EPS grew 11.28% compared to 41.49% for 2016.

As of their most recent quarter, IIVI has a debt-to-equity value of .50 which shows successful debt management when compared to the industry. The company also has a quick ratio of 2.71, showing that the company is able to cover short-term debt quickly and efficiently.

Operating margins are high at 12.3% as of the most recent quarter and EBITDA margins are greatly exceeding the rest of the industry at 19.2%

Strengths and weaknesses

Clearly the company has shown that they know how to manage their financials by posting low debt-to-equity ratios while simultaneously growing revenues and expanding their profit margins. Their ROE as of the end of 2017 is 3.7%, which is well above their peers. On top of that, cash from operations continues to grow YoY.

No company is perfect but with how well they continue to perform in the key metrics, any weakness can probably be outweighed. The only thing I would point out to watch going forward is their slowing rate of EPS growth. Although the company continues to show growth, it has been slowing as of recently.

Possibilities and risks

IIVI is the leading provider of solutions for optical networks. With the rollout of 5G networks ready to take place, the company continues to show their ability to think about the future as they recently announced the introduction of a new product, an ultra-low profile tunable optical filter for the next generation of coherent opticals. This industry is highly competitive and growing rapidly as technology continues to advance. So a company must be able to demonstrate their ability to develop new products to keep up. IIVI has done a great job so far up to this point.

Since IIVI resides in the tech sector, the company relies on consumer demand to be able to show growth. Consumer demand is impacted by several economic factors and a decline in consumer confidence or rise in commodity prices may impact IIVI's ability to continue to grow at the pace they have shown recently. Although these risks are inevitable, I do not see them being a factor in the short-medium time frame.

More upside potential ahead

The company has been able to grow at a very decent pace up to this point and with the economic conditions still stable at the moment, analysts believe there is no reason this won't continue. Of the 7 analysts currently covering the stock, all of them are positive with 2 ranking a HOLD and 5 ranking a BUY. The average price target amongst them is $51.21 which gives the current price of $38.10 a 34% discount to their targets.

(Source: Thomson Reuters Eikon)

Shares are currently trading at 28.84x P/E and have a forward P/E of 17.67. This is greatly undervalued to the average among peers of 56x showing that the company is undervalued. With a PEG of only 1.37, upside potential remains great from a valuation standpoint.

Summary

IIVI has shown impressively consistent growth as of recently. With 5G networks starting to make their way into the markets, the company is showing their ability to adapt by rolling out new products. Their ability to manage debt has helped with their profitability and there's no evidence that suggests this won't continue going forward. The strengths greatly outweigh any weakness the company has shown and I have a $52 price target for IIVI.

On a technical level, the company is sitting just off a longer term trend line that is providing support. The price is currently below its rising 200 day moving average but appears to be ready to bounce off the trend line I just noted. I'll be looking for shares to get above $40, which is previous resistance, before initiating entry. Even at a $40 price, the level of risk for putting on a trade is minimal as any exit would be below the trend line support.

(Source: ThinkorSwim/TD Ameritrade)

Analyst’s Disclosure: I/we have no positions in any stocks mentioned, but may initiate a long position in IIVI over 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.