Tanaonte
Analog Devices, Inc.’s (NASDAQ:ADI) high-performance semiconductor products drove the company’s revenue growth at a CAGR of 16% in the last five years. I expect the company’s revenue will grow at a CAGR of high single-digits in the next five years driven by increasing demand for its analog ICs, DSP (digital signal processing) and data converter products. As a result, its share price will rise significantly in the next five years. Long-term growth-oriented investors can buy the company’s shares around the current price to maximize their profit.
Analog Devices is a leading high-performance semiconductor company which primarily develops analog and mixed-signal ICs (integrated circuits). The company is dedicated to solving its customers’ most complex engineering challenges. The company connects the physical and digital world by making the building blocks of sense, measure, interpret, connect, and power. The company’s products include data converters, amplifiers, power management devices, RF (radio frequency) ICs, edge processors, and many other sensors.
Growth Drivers
Analog ICs
ADI’s primary growth driver is its high-performance analog ICs. These ICs include both general-purpose products and application-specific products. The company’s readily available and high-performance general-purpose products help its customers reduce the time they need to bring new products to market, which adds a competitive edge to the products. In addition, these products offer a cost-effective solution for developing many low to medium volume electronics and computing products. As a result, these products enjoy huge demand in the marketplace, which leads to sustainable long-term revenue growth for the company.
The company also develops application-specific products leveraging its analog product development expertise. These products include power management, radio frequency and edge processing solutions. These products beat competitor products since they offer superior technology, leading to more longevity for applications where they are used. Since the company’s general-purpose product development platform is strong, it can develop application-specific products quickly and efficiently. ADI’s application-specific products support revenue growth coming from general-purpose products.
DSP and Data Converter Products
ADI’s DSP and data converter products form its other growth driver. For real-time processing of digital data, such as voice, audio, video, temperature, pressure, and position, DSPs are used. The company offers fully programmable DSPs for use in electronic and computing applications. The DSPs are compact, power-saving and cost-effective, for which they enjoy great demand in the market and beat competitor products. The company’s data converter products are also used by major OEMs (original equipment manufacturers).
These data converter products convert analog signals into digital data and digital data into analog signals. These products have sustainable demand since the adoption of test and measurement solutions by end users is gradually increasing. Both the company’s DSP and data converter products will help it boost long-term revenue growth.
Competition
The market in which ADI operates is highly competitive. The company’s competitors include Broadcom (AVGO), Texas Instruments (TXN), NXP Semiconductors (NXPI), Microchip Technology (MCHP), Monolithic Power Systems (MPWR), and Infineon Technologies (OTCQX:IFNNY). ADI competes with its competitors based on advanced technology, lower price, and excellent customer care.
ADI’s primary competitive advantage is that since its ICs can address a wide range of real-world signal processing applications, its customers are able to use its products spanning its core technologies in a variety of applications. As a result, the company’s long-term revenue growth remains intact. ADI’s other competitive advantage is that its analog and mixed-signal ICs enjoy an array of advantages compared to competitor products, such as higher speed, smaller size, higher accuracy, lower power consumption, lower cost per function, and fewer components, which leads to sustainable long-term revenue growth for the company.
Third Quarter Fiscal 2022 Results
ADI’s third quarter fiscal 2022 revenue came in at $3,110 million, up 24% year-over-year on a combined basis. The company’s operating income for the quarter was $893 million, up 47% year-over-year, and adjusted EPS was $2.52, up 47% year-over-year.
The company delivered excellent results for the third quarter of fiscal 2022. Top-line increased driven by customers’ increasing focus on digitalization, and the company’s strong focus on innovation, which resulted in appreciation of ADI’s cutting-edge technology. Bottom-line increased driven by the company’s cost-cutting efforts and its robust financial discipline, which resulted in increasing demand for its analog and mixed-signal products. The company pays steady dividends, for which I like its stock. The company’s forward dividend yield is 2.19% and forward annual payout is $3.04, which is impressive. I believe the company will pay growing dividends in the coming years driven by continuing gains in market share in its analog and mixed-signal businesses. The company’s industry-leading margins in these businesses will fuel dividend growth as well.
The company’s strong financial profile with a diversity of customers, products and applications will help it fuel revenue growth in the next five years. As a result, profitability growth will follow in the same timeframe. The company’s $1.6 billion annual research and development expense will help it enable disruptive innovation and boost the ability to develop more complete and competing products.
Valuation
ADI’s peer group companies include Broadcom, Texas Instruments, NXP Semiconductors, Microchip Technology, and Monolithic Power Systems.
|
ADI |
AVGO |
TXN |
NXPI |
MCHP |
MPWR |
|
|
P/E Non-GAAP (FY1) |
14.65 |
11.51 |
15.78 |
9.91 |
10.21 |
25.69 |
|
Price/Sales (TTM) |
6.39 |
5.56 |
7.14 |
3.01 |
4.44 |
9.98 |
|
Price/Cash Flow (TTM) |
16.71 |
11.11 |
15.92 |
10.89 |
10.47 |
42.13 |
(Data Source: Seeking Alpha)
ADI is fairly valued compared to competitor companies. Its balance sheet consists of cash and equivalents of $1,525 million and debt of $6,252.8 million. With a net leverage ratio of ~1.5x, the company feels it has no need to further reduce debt. However, I disagree with the company. I believe the company should continue to reduce debt in order to boost bottom-line growth in a consistent manner. The company’s R&D initiative to bring innovative products in the market supports its valuation. I don’t believe valuation will shrink further in the days to come, driven by increasing scope of expanding SAM across applications in the areas of industrial, automotive, communications, and consumer. I expect the company’s valuation will expand in the long-term driven by consistent revenue growth. Long-term investors can buy the company’s shares around the current price.
In the last five years, ADI’s revenue has grown at a CAGR of 16%, and I believe in the next five years the company’s revenue will grow at a CAGR of around 9%. Now, I will find out the company’s long-term (five-year) share price. The company’s trailing 12-month revenue is $11,105.80 million, and at a CAGR of 9%, the company’s end-2027 revenue will be $17,090.00 million, or $33.23 per share. In the last three years, the company’s shares have traded between the price-to-sales multiples of 5.3x and 10.8x. In the next five years, the company’s price-to-sales multiple is expected to touch a high of around 8x driven by growing demand for its analog and mixed-signal products. Applying a price to sales multiple of 8x on ADI’s end-2027 revenue per share, I get $265.84 as the company’s end-2027 share price.
Risks
ADI’s analog semiconductor products are highly complex and may contain defects, which could affect their performance. If such cases continue to happen, the company’s reputation for reliability could be damaged. A few of the company’s products could contain security vulnerabilities and bugs, which could result in data losses and security breaches for customers. If the company cannot control the occurrence of defects and bugs in its products, its revenue growth and results of operations could be negatively impacted.
The company is indebted, which is a key risk. If the company fails to generate sufficient cash flow, it may not be able to service its debt obligations. The company’s bottom line could be negatively impacted due to its indebtedness, which could affect dividend growth. The company may not diversify its product offerings due to its indebtedness, which could negatively impact its share price in the longer term.
Conclusion
ADI is an innovation-driven company, which leads to long-term revenue growth for the company. Its continued operational excellence and strong financial discipline result in sustainable bottom line growth. I believe the company has diversified well by purchasing Maxim Integrated Products. Long-term investors can buy the company’s shares around the current price.
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