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| Of all the subsectors within technology, semiconductors have taken the biggest beating so far.
The quarter that ends on Mar. 31 will probably be "one of the worst quarters ever, with
industry revenues down more than 20% sequentially from the December quarter," wrote Charles
Boucher, semiconductor analyst at Bear Stearns, in a report published on Mar. 20.
For investors, this means chip stocks could be pretty near their bottom -- so now could be a
good time to start getting back into the sector. A good time, that is, if your investing
horizon is longer than three to six months. The real turnaround in these stocks should begin
sometime in the third quarter, according to Boucher. Until then, he thinks you could be
risking as much as a 20% to 25% drop in the value of your semiconductor portfolio.
Which is why you should buy a little at a time, particularly on market dips. If you do that,
analysts say, you have a good chance of making money from chip stocks in the long run -- say,
over the next year or so. "[Sales] growth in the silicon industry has averaged 15% to 16% a
year for the last 30 years," says Boucher. "This industry will have steady growth long term."
VARYING FORTUNES. Before diving in, remember that all chipmakers aren't
created equal. Different companies respond to the ups and downs of different end-user markets.
Sales of less sophisticated chips that are used to regulate the power supply in a clothes
dryer or make your car window roll up will come back before sales of those used in fiber-optic
telecom networks. So choose your portfolio accordingly (click here to see S&P's
Tom Smith talk about shopping for value in semis).
It's fair to assume that the sectors that crashed first should recover first, since they began
working off their excess inventory the soonest. If that logic holds, producers of
semiconductors that go into wireless devices and PCs may be among the first to enjoy a
recovery, according to Brian Marshall, senior semiconductor analyst at JP Morgan H&Q. "Last
year, wireless dropped in the second quarter, and PC sales crashed in the third quarter, which
is usually a strong quarter for PCs," he says. "In the fourth quarter, wireline communications
followed, and now it's digital consumer products."
Although PC sales haven't yet bounced back, the orders computer manufacturers have given to
chipmakers show that demand is no longer dropping the way it did in 2000. Marshall expects PC
unit sales in 2001 to be about level with 2000, even though the total dollar volume might be
lower due to discounting to get rid of inventory. "We think the industry will return to decent
growth in 2002," he adds.
"MINIMAL DOWNSIDE." That's good news for Intel (INTC
) --
and it also makes the stock an interesting proposition at its current price in the high 20s,
about 62% off its 52-week high of $75.81 last August. "Its price-to-trailing-revenue multiple
is at its 1998 level," says Bear Stearns' Boucher. "That suggests minimal downside."
He believes that the sales ramp up of Intel's Pentium IV microprocessor, a chip with
high-speed processing capability that will be used in superpowered servers, will coincide with
a recovery in the communications business over the next three to five years. That's because
Intel's first 64-bit chip will create such vast processing capability that it can quickly
crunch whatever data volumes fatter telecom pipes throw at it. But even though the Pentium IV
will allow computers to interface with more sophisticated telecommunications functions, it's
still PC sales, not telecom equipment, that will drive Intel's fortunes.
Texas Instruments (TXN
) is another potential buying opportunity. A
large-cap stock with a diverse customer base, TI sells chips used in wireless data
transmission as well as high-performance analog chips for MP3 players and a slew of other
devices. Chipmakers that sell to the PC and wireless sectors are safer than those that sell to
optical and broadband, observes Boucher. "Wireless is down now, but ultimately this will be a
big market," he adds.
He sees TI as a communications and networking play, with a wireless bent that positions the
company's earnings to bounce back sooner than those of some other chipmakers. In its current
trading range of the mid- to high-30s, the stock is about 60% off its June high of around $91.
CHEAPER THAN INTEL. Since the economic slowdown makes it hard to predict
forward earnings, Boucher uses price to trailing 12-month sales to compare values among chip
stocks. By that measure, as of Mar. 19, when Boucher last published his calculations, TI at
4.4 times sales was trading cheaper than Intel at 5.3 times sales. But Intel doesn't look
pricey compared with its peers. The average for the chip stocks that Bear Stearns follows was
5.83 times trailing 12-month sales as of Mar. 19.
In Bear Stearns' pool of companies, among the highest price-to-trailing-sales ratios are those
of programmable-logic chip producers Altera (ALTR
) and Xilinx (XLNX
). The former was trading around 8.6 times trailing 12-month sales and the
latter at 9.6 times, according to Boucher's March comparison. At its current price of around
$43, Xilinx is 56% off its high of $98 last June. Currently trading in the mid-20s, Altera is
down 61% from its September high of around $67. These mid-cap stocks are still favorites among
analysts, however, probably because they offer greater growth potential than either Texas
Instruments or Intel.
Greater growth potential, that is, over the long term. In the short run, Xilinx and Altera
face a tough market for their products -- blank chips that can be programmed by customers.
These are most useful for telecoms building their own networks. Currently, too many telecoms
and too much fiber-optic capacity are around given the current level of consumer and business
demand. That means Xilinx and Altera will have to survive a shakeout among their customers
before their sales take off again. Currently, both are in the midst of a serious inventory
correction. On the positive side, however, demand for broadband services sold by the Baby
Bells should work in their favor.
For investors, Altera, Xilinx, TI, and Intel all present attractive valuations at current
levels. Still, don't expect to reap rich rewards right away. As Bear Stearns' Boucher put it
in his Mar. 20 report: "Short-term investors should be cautious about increasing exposure to
this group too rapidly. Long-term investors should start to gradually increase weighting in
the group over the next three to six months, focusing on quality stocks that trade near trough
valuation levels."
In other words, if you're careful and patient, chips may treat you well over the next year. |
Copyright 2001 , by The McGraw-Hill Companies Inc. All rights reserved.
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