Maxim Among The First To Deliver A Real Recovery, But Expectations Were Already Steep – Maxim Integrated Products, Inc. (NASDAQ:MXIM)

“First in, first out” seems to be working out for Maxim (MXIM), as this diversified chip company chose to make hard decisions earlier in the cycle that punished growth at the time, but now leaves the company ahead of many of its peers as the recovery begins. I also like the leverage Maxim has to multiple growth opportunities, including autos, factory automation, data centers, and 5G, not to mention a strong margin profile and clean balance sheet.

Maxim’s beat-and-raise quarter was a welcome sight, but I am a little concerned about the sustainability of the outperformance in wireless. Then again, this is hardly a Maxim-specific issue. The bigger issue for me remains valuation. Multiples are high across the chip sector, all but demanding beat-and-raise quarters to sustain, let alone drive, share prices, but again this is not a Maxim-specific issue. I’d rather own STMicro (STM) at current prices, but Maxim is definitely a name I’d consider on a pullback.

A Good Quarter On Balance, But With Some Moving Parts To Watch

Maxim posted a 1% top-line beat, despite two of the four units coming in below expectations. Gross margin improved slightly on a year-over-year basis (up 10bp) and a full point on a sequential basis, beating expectations by a full point. Operating income fell 8% yoy, but rebounded 9% qoq and came in 5% higher than expected, with margin shrinking 130bp yoy and expanding 160bp qoq.

Inventory continues to be a positive for Maxim. Overall inventory days declined 20 days yoy and 6 days qoq, while channel inventory fell 19 day yoy and rose 1 day qoq. I expect channel inventories to expand a bit in the coming quarters, but Maxim moved early and aggressively to sort out its inventory situation, and I think the company will benefit from it.

Looking At The Segments

Industrial, Maxim’s largest segment, saw 3% yoy revenue contraction and 7% qoq expansion, slightly better than expected. That was considerably better than the performance at Texas Instruments (TXN), down 10% yoy and qoq; while STMicro doesn’t’ report in a comparable way, management there did indicate some improving underlying trends, with higher interest in SiC chips.

Auto sales were down about 3% yoy and flat qoq, missing expectations by 6%, but still outperforming underlying builds in the quarter (which were down about 6% yoy). TI did better on a yoy basis, but similarly on a sequential comparison, while STMicro had a stronger sequential bounce in its auto business, again helped by the SiC business.

Communications and data center saw 12% yoy growth and impressive 25% qoq growth, coming in 18% above sell-side expectations. Maxim saw some good demand for 100G laser drivers from data center customers, but the growth was primarily driven by 25G drivers for 5G in China. I’m concerned that this is an inventory build meant at least in part to offset risks of further trade disruptions, but revenue is revenue and Maxim would hardly be the only company with volatile results in 5G.

Last and least was the Consumer business, which declined 22% yoy and 15% qoq, missing by 6% in a quarter where handset exposure has been a benefit for many chip companies. Obviously, specific customer exposure matters.

Healthy Guidance … If It Holds Up

On the “raise” side of the beat-and-raise quarter, Maxim offered a wide guidance range for the next quarter of $555 million to $595 million. At the midpoint, that’s about 3% higher than what the sell-side expected, and management also raised gross margin guidance (120bp), driving a roughly 9% higher EPS target.

The Communications and DC guide for 7.5% qoq growth suggests that the 5G and datacenter driver orders will continue, and I’d expect power management orders to start improving as well. The guide for flat qoq revenue for Communications looks fairly unremarkable.

Maxim is looking for over 7% qoq growth in Auto, with battery management, ADAS, and infotainment all contributing. Content and launch growth can support the BMS and ADAS opportunities; while China’s auto market is still struggling, new BEV launches are still being relatively well received. Infotainment is more volume-driven, though, and I think there could be some risk there.

Finally, Maxim guided to 12% yoy and 2% qoq growth in Industrial, with improving factory automation demand. I realize automation customers are going to buy ahead of the turn, but nothing coming out of the industrial space so far (including Rockwell’s (ROK) results) suggest a rebuilding of momentum.

The Outlook

My concerns about Maxim’s guidance are not about management’s ability to deliver, but rather whether whatever signals they’re seeing to inform that guidance are real and durable. As I said, I see some reasons for caution where autos and industrial are concerned, but communications and data center could still offer some upside (ironic, I guess, given that Maxim has been lamented as under-leveraged to 5G and data center compared to its peers).

I’ve boosted my near-term expectations a bit, and that improves my DCF-based fair value a bit, but the long-term revenue and FCF growth rates don’t change much (mid-single-digits for both). The bigger improvement is the stronger margins, which drive a higher forward revenue multiple. Unfortunately, here again, the expectations were already so high that the net improvement isn’t enough to change the valuation situation to a meaningful extent.

The Bottom Line

I think the chip sector has come too far too fast, although Maxim has actually been a notable laggard over the last year. At this point, I think beat-and-raises are now embedded in expectations, which I believe is why the stock didn’t react all that positively to an otherwise good result (and guidance). At a more reasonable price, Maxim would be worth reconsidering, but for now I’d prefer STMicro.

Disclosure: I/we have no positions in any stocks mentioned, and no plans to initiate any positions within 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.

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