Integrated Device Technology Doing Okay For Now

Summary

• A small quarterly beat will help investor confidence a little bit, but IDT probably needs a couple more quarters before all of the drivers sync up.
• Near-term opportunities in memory interface and wireless charging are meaningful, as are longer-term opportunities in auto and industrial markets.
• Mid-single-digit revenue growth and non-GAAP operating margins around 30% can support a fair value in the low $30s.

Investors who’ve chosen to sit on the sidelines and wait and haven’t lost out on much when it comes to Integrated Device Technology (or “IDT”) (NASDAQ:IDTI), as the shares are down about 6% from when I last wrote about the company. Quite frankly, though, that’s been true for the sector as a whole and investors would have done better with IDT than with Broadcom (AVGO), Maxim (MXIM), ON Semiconductor (ON), Sensata (ST), or the SOX in general over the last three months, as investors have grown more concerned about whether there’s enough demand growth to sustain this extended run that chip companies have enjoyed.

My basic outlook on IDT really hasn’t changed much. Between its strong positions in data center memory interfaces and wireless handset charging, growth opportunities in sensors, and longer-term opportunities in communications, I believe IDT can outgrow many of its peers while generating good margins. With a fair value in the low $30s and some appeal as a buyout candidate, I think these shares are still worth considering even if it is getting late to play the semiconductor space.

Good Enough Results To Close Out The Fiscal Year

IDT did a little better than expected in the March quarter (the company’s fiscal fourth quarter). Revenue rose 28% yoy and more than 3% versus the prior quarter, coming in a little better than the sell-side had expected. The composition was a little different than expected, though, as Computing saw a high single-digit sequential decline (worse than expected) while Consumer and Auto/Industrial were both stronger than expected with 20%-plus sequential growth.

Gross margin was slightly better than expected, and up almost three points from last year, but management chose to spend a little more to support product growth. Even so, the double-digit sequential increase in operating profit (high single-digit increase in non-GAAP terms) wasn’t bad and the non-GAAP operating margin expanded almost three points yoy and more than a point qoq.

Guidance was relatively sedate, with management boosting the outlook for the next quarter slightly, but indicating that the company was ahead of plan on reaching a $1 billion annual revenue run-rate before calendar 2020.

Herding Cats

IDT has several areas of its business that should deliver good growth, but the trick has been getting all of the businesses pulling on the oars at the same time. Of course, the frame of reference for these comparisons makes a difference – while the sell-side laments the unexpectedly weak sequential performance of the Computing business, it still grew 39% yoy as the Purley transition has been stronger than expected.

Staying on the subject of computing, the Purley transition/ramp seems to be only about one-third complete, so the outlook for this business is still favorable. The March quarter saw some transition issues related to the move from PCI Gen 3 to Gen 4, but memory interface pricing has been healthy and there should be room to grow the LRDIMM attach rate.

IDT’s Consumer business is benefiting from product ramps in wireless charging. For all of the angst about Apple’s (NASDAQ:AAPL) lackluster recent performance, IDT has done well signing up customers among the Korean and Chinese OEMs and looks well-placed as the #2 player behind Broadcom. With new wins on both the receive and transmit side, the next couple of years could offer double-digit growth and I wouldn’t ignore the opportunities in auto, industrial, and IoT for wireless charging.

Sensors, too, are an increasingly important part of the business, with IDT targeting opportunities in both the auto and industrial markets with capabilities in a range of areas like position, flow, motion, humidity, and so on. Weaker built rates and rampant competition are both well worth watching, particularly as seemingly every semiconductor company is trying to boost its auto content these days.

Longer term, opportunities in optical tied to PAM-4, mmWave, and timing components also offer upside, with management projecting potentially up to 50% more addressable content per base station when 5G deployments begin.

The Opportunity

In the meantime, there are still challenges for IDT to address. 5G-related revenue probably won’t show up for at least another year and the optical communication market today is still challenging, creating pressure for the company’s timing, RF component, and SRIO products. Along those lines, I’d also note that the sanctions against ZTE struck out about $20 million of annual revenue for IDT and similar moves against Huawei would be even worse.

I also am not sleeping on competitive risks. From NXP (NXPI) to Renesas to ON and beyond, there’s no shortage of would-be rivals in auto chips (wireless charging/power, power management, sensors). Likewise, I am still somewhat concerned about the entry of competitors into the wireless charging space for handsets, creating a competitive environment similar to that of touch sensors back in the day.

With those risks factored into my model, I’m still looking for long-term revenue growth in the neighborhood of 6% over the long term. IDT doesn’t appear to have as much margin upside as I see for other semi companies, but I do expect gross margin to move toward the mid-60%’s and for operating margins to move into the low 30%’s (non-GAAP), supporting 20%-plus adjusted free cash flow margins.

IDT doesn’t look undervalued on the basis of those discounted adjusted cash flows, but that’s not uncommon (Broadcom is relatively unusual in looking cheap to me on a cash flow basis). Looking at the company’s margin and revenue prospects, though, I believe the shares can support a forward EV/revenue multiple of between 4.5x and 4.75x, driving a fair value range in the low $30s. Were IDT to draw a bid, I would expect a mid-$30’s valuation on the basis of the potential expense synergies.

The Bottom Line

There are some risks to buying IDT now, but I also believe that if you wait until all of the business are running smoothly, you’ll have to pay a higher price. I do have some concerns with buying any semiconductor stock at this point in the cycle (as a weak sector often overpowers a strong company-specific story), but the risk/benefit on IDT is skewing a little more positively now.

Analyst’s Disclosure: I am/we are long AVGO. 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.