- Texas Instruments is strategically positioned to benefit from tailwinds in industrial sectors, transportation, and consumer electronics.
- These tailwinds will fuel revenue growth over the coming years, which will trickle down to shareholders as dividend increases and buybacks.
- There is a lot to like, but the stock is a little pricey. I would wait for a pullback.
Texas Instruments (NASDAQ:TXN) has long been one of my favorite semiconductor companies. A leader in the industry, Texas Instruments also boasts strong fundamentals such as strong profitability, cash flow margins, and a clean balance sheet. All of this will enable Texas Instruments to grow revenues and profits over the coming years. There is currently immense demand for semiconductors, and macro-level trends that will accelerate growth in end markets that Texas Instruments has large exposure to. We will outline these and look at the current valuation of the stock.
Semiconductors are the building block of technology, so Texas Instruments sells to many customers all over the world. If we look at where revenues are generated by end market, we can identify the industries that really drive the business.
With approximately 84% of total revenue generated by sales into industrial, automotive, and personal electronic applications, we can expect Texas Instruments to grow if these industries continue to thrive.
The industrial segment is very broad, but I see applications falling into two "piles" when talking about Texas Instruments. The first pile is the electrical industry. This would be factories, utilities, power management, and other commercial scale applications.
In these end markets, semiconductors are in demand as companies seek to make production processes safer for employees, but also more efficient. Equipment is becoming more digitally capable. A great example of this is in the utility business where power companies are using data to make better capital allocation decisions. Technology is used to measure use cases, and then collect and transmit that data to be analyzed for decision making.
The other "pile" within the industrial unit of Texas Instruments is what I refer to as residential applications. This would be smart thermostats, smart door locks, and appliances like ovens, washing machines, etc. that can be controlled remotely, or self-diagnose and initiate service calls. This is another high-level trend that is accelerating. Statista estimates "smart home" penetration to be at about 12% currently, and is expected to increase to 21% by 2025. The vast majority of this is in the United States. Residential is a massive sector, and I suspect that steady digital penetration throughout the US and (later) emerging markets will fuel many years of demand for semiconductors.
The automotive sector is another important segment for Texas Instruments. Years ago, vehicles were primarily built from metal components and featured mechanical systems that enabled the vehicle to operate. But times have changed. Modern vehicles have become a computer on wheels. There are electronic systems throughout vehicles and impact every aspect of how it operates from performance to efficiency, and entertainment to safety.
We are in the early stages of the next generation of transportation. Electronic vehicles and autonomous driving systems are just now gaining mainstream traction. Over the coming decades we will see vehicles continue to move further on the spectrum to being thought of as an electronic device, rather than a machine.
Texas Instruments strategically invests in sub-sectors in the automotive business, targeting applications that speak to this. These include:
- Hybrid/electric power train
- Advanced driver assistance systems
- Passive safety
- Body electronics/lighting
In the face of an ongoing shortage of semiconductors worldwide, automotive companies have had to curtail production to account for the shortage of chips. This will create pent up demand that will take time to unwind. Combined with a tailwind of technological advancement, the automotive industry should show high demand for a long time to come.
The company's business in personal electronics is a bit more mature compared to industrial and automotive. Growth in personal electronics has largely been attributed to the growth of smart phones, laptops, and wearables over the past decade.
Despite some maturity in these industries, the cycle over to 5G will expand bandwidth, efficiency, and scale of connected devices.
In addition, drones are an emerging product category. Drone sales are expected to rapidly grow in the coming years both in the consumer category, and as drones are implemented in new commercial and government applications.
Driving Shareholder Returns At Texas Instruments
Texas Instruments should have broad and meaningful exposure to these macro-trends. Analysts agree, with revenues estimated to surpass $16B in 2021 and 2022 after remaining relatively stagnant from 2016-2019.
Estimated revenues for 2021 would represent YoY growth of 14.3%. Estimated revenues for 2022 would represent YoY growth of 5.0% over 2021. There is still a lot of time between now and FY22, so we will have to see what impacts the current chip shortage has on business.
With the strong unit economics that Texas Instruments has, this new top line growth will trickle through to shareholders. The company has strong margins that convert revenue to cash flow at a near 38% rate.
Texas Instruments is able to use this cash flow stream to steadily increase its dividend and buyback stock. It's what I call a "cash cow".
With tailwinds for continued revenue growth, investors can continue to expect their dividends to increase, along with steady EPS growth. Over the past five years the dividend has grown at a CAGR of 21.6%. Earnings per share have grown at a CAGR of 16.1%.
Looking At Valuation
Given the market is at all-time highs (S&P 500 just closed above 4,000 for the first time) and the high demand for semiconductors, it shouldn't be a surprise that Texas Instruments is trading at a 52-week high.
With estimates for 2021 set at approximately $6.83 per share, Texas Instruments is currently trading at roughly 28X forward earnings. This is a notch above the stock's historical norms at 21.1X.
While the increased demand for semis will drive performance that I think will help Texas Instruments earn a higher multiple than its historical norm, it may be a bit of a stretch to view 28X as a floor/accumulation point.
I would like to see the stock correct a bit before I would be interested. If the stock were to fall to 24X earnings ($163 per share), I think investors would have some near-term upside with a focus on multi-year growth due to the macro-trends discussed.
Texas Instruments is a great company and is strategically positioned to take advantage of "big picture" trends that are driving the future of industry, transportation, and consumer electronics. The top-line growth will trickle down to shareholders thanks to the strong business economics of Texas Instruments. With that said, a lot of upside is priced in here and I would wait for a correction before pulling the trigger.
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