Long-Term Attractiveness For Some Chip Companies

Zacks senior semiconductor industry analyst Abdul Saleh was on hand recently to give us his updated viewpoint of this sector. He even told us what his top three semi Buy-recommended stocks are at this time.

What’s new in the semiconductor industry lately?

With a slowdown in the domestic economy, the chip companies are looking globally — notably Russia, India, China and South America — for growth, where the demand for technology is growing at a healthy 30-40% clip. In fact, Intel’s (INTC) CEO Craig Barrett was interviewed recently on this subject and reiterated this viewpoint.

The Street has not bought this thesis as yet, but if the numbers turn out to be what the companies are projecting, it may be positive for investors. Also, we got some exposure with the media in this sector — I, myself did an IBD interview on Atheros (ATHR) recently — and our projections have been reasonably correct so far. My overall recommendation for the sector has also been quite accurate, with a couple of exceptions, of course.

Can we start by hearing a little about some of the more heavily traded semi companies first?

Certainly. Among companies in my coverage, this would be referring to two companies: Broadcom (BRCM) and LSI Corp. (LSI).

For Broadcom, margins are expected to remain under pressure due to the ramp up of new products and increase in operating expenses to the tune of $15-$20 million. BRCM expects moderate growth in broadband communications, driven by a seasonal pick-up in the blue ray and digital TV product lines. Growth in the traditional wireline business is expected to slow down in the second half of the year. We maintain our Hold rating and target price of $24.

In LSI’s case, the revenue drivers from the new technologies acquired in LSI’s buyout of Agere Systems as well as an acquisition deal with Infineon (IFX) recently are coming through, but will become more meaningful in the late-2008/early-2009 time frame when share gains in the hard disk-drive (HDD) space begin to accelerate, based on recent design wins. Until then, headwinds from a deteriorating macroeconomic environment remain a significant risk for the story. LSI also remains a Hold for us currently.

Tell us something about a few of the Buy-rated companies you cover.
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OK, we can start with Skyworks Solutions (SWKS). The company is a leading supplier to top handset manufacturers for some of the world’s largest telecommunications firms. Because of its radio frequency (RF) expertise and manufacturing prowess, the company continues to secure design wins with new and existing customers. The stock has come under some pressure lately, which in my opinion may be short-term. We believe in the longer term growth thesis for the company.

Skyworks’ strategy of providing integrated solutions is helping it gain market share at leading original equipment manufacturers (OEMs). Also, the increasing dollar content per handset is offsetting price pressure. The trend towards wireless handsets with greater functionality favors the company’s business model.
Two other Buy-rated semi companies are closely aligned. In fact, they are competitors of one another.

We believe Altera (ALTR) is a play on the secular trend of programmable logic devices (PLDs) replacing application-specific integrated circuit devices (ASICs). The hallmark of a PLD is its flexibility. When designs have to be altered, they can be re-programmed and brought to market faster. Changes can be made even when the devices are in the field. In the long run, PLDs are expected to replace ASICs, providing a strong opportunity for future growth.

Similarly, Xilinx (XLNX) is also a play on PLDs replacing ASICs. Engineers typically use ASICs for high volume but low-cost applications. The high cost of developing an ASIC can be spread out over the large number of relatively cheap units. But PLDs do not have high development costs.

This interview was previously released on Zacks.com. Abdul Saleh is a senior analyst covering the semiconductor industry for Zacks Equity Research.

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