NVEC - NVE Corp. Falls 17%: A Spintronics Pioneer With Promising Investment Potential

2023-10-23 12:56:40 ET

Summary

• NVEC’s earnings fell short of expectations, and its stock price dropped by almost 20% the next day.
• Despite the revenue fluctuations, we think that NVE Corporation is a pioneer in spintronics technology and has a competitive edge in the growing spintronics market.
• The company has strong financial margins that rank among the highest in the semiconductor industry.
• Our analysis shows the company is undervalued compared to its peers, suggesting a significant upside potential. We view NVEC as a lucrative investment opportunity with a target price of $90.

Investment Thesis

NVE Corporation (NVEC) missed the earnings expectations for FY24 Q2 and its stock price plummeted by almost 20% the day after. We analyzed the various aspects of NVEC’s business, including the market and its financials, to estimate its value and see if it is a good time to invest.

Our analysis shows that NVEC is a leader in the spintronics industry with a strong history of innovation. The company has high profitability and a strong competitive edge to tap into the huge growth potential in this field. We consider the revenue shortfall as a temporary setback, and we are confident that NVEC is a promising investment opportunity with a target price of $90.

Company Overview

NVE Corporation is a company that specializes in spintronics, a nanotechnology that uses the spin of electrons to create, store, and transfer information. The company makes high-performance products based on spintronics, such as sensors and couplers, which can sense and communicate data. These products are used in various fields, such as defense industry, healthcare, medicine, and IoT. The company also licenses its spintronic MRAM technology, which is a type of memory that uses magnetic fields to store data.

NVE Corporation operates in various geographies worldwide, and their products are sold through a global network of distributors.

NVEC's mission is to make spintronics practical by manufacturing high-performance products including sensors and couplers for data acquisition and transmission in various applications.

Market Opportunity

The Spintronics Market is projected to grow significantly in the coming years. The market size, estimated at USD 1.09 billion in 2023, is expected to reach USD 5.15 billion by 2028 , growing at a CAGR of 36% (Source: Mordor Intelligence). Currently, the spintronics market is in its early stage, with a significant portion still heavily reliant on research and technological innovations.

The growth of the spintronics market is driven by several factors. The increasing use of applications such as hard drives, digital electronics, and sensors has led to the introduction of energy-efficient chips and memory-storage devices. Moreover, the adoption of spintronics devices is expected to dominate the electronic devices market due to their superior performance and low power consumption (Source: Mordor Intelligence).

In recent years, spintronics has been gaining traction in the microelectronics market. This is evident with the launch of a new type of magnetic memory - MRAMs (Magnetic Random Access Memory) by major players in the field such as Samsung, INTEL, TSMC, and Global Foundries. Key players in the spintronics market include NVE, Everspin Technologies ( MRAM ), Crocus Technology, Avalanche Technology, and Synopsys ( SNPS ) (Source: Mordor Intelligence).

Business Strategy – Innovation and Technology Leadership

NVEC’s commitment to innovation and technology leadership is a cornerstone of its business strategy. NVEC’s pioneering work in this area has led to the development of innovative products that offer superior performance and efficiency. NVE Corporation holds more than 50 issued U.S. patents and is protected by more than 100 patents worldwide either issued, pending or licensed from others. This robust patent portfolio not only protects its technological advancements but also underscores the company’s ongoing investment in research and development.

The company's commitment to innovation and technology leadership is also evident in the company's financial results. NVEC ((NVEC)) delivers some of the highest margins in the semiconductor industry. We think that these figures underscore its product leadership and ability to command premium pricing. In particular, the gross margin serves as a significant indicator of NVEC’s strategic success.

Financials

NVEC's second quarter results felt disappointing. The company saw its total revenue drop by 33%, compared to the same quarter of the previous year. The total revenue went down from $10.7 million to $7.12 million. NVEC Management explained this decrease as a result of a tough revenue comparison of last year (when product sales soared by 59%) and the ongoing downturn in the semiconductor industry, which we think is a valid explanation when taking into account the market conditions.

As the chart above shows, NVEC’s revenue is volatile over recent quarters. We think that this is a normal pattern for small cap companies with limited sales scale. NVEC’s sales numbers still rely on a few large contracts and their procurement cycles, which can affect revenue stability. However, in 2023 overall, NVEC has performed better than the semiconductor market, which is shrinking by double digits YoY in 2023.

We think that NVEC did a great job in maintaining strong margins and increasing cash flow, despite the large decrease in revenue. For Q2 2024, NVEC reported a gross margin of 78% , indicative of robust and sustained profitability. NVEC also reported an operating margin of 65%, which showcases the company’s effective management of its operations and its ability to drive profitability above industry averages.

We regard the company’s ability to sustain these high margin levels as evidence of its strategic commitment to innovation and technological leadership.

Valuation

When we look at the key valuation multiples, NVEC appears to be undervalued relative to the sector. The P/E, PEG, and EV/EBITDA ratios are below the sector median, suggesting that the company is trading at a lower valuation than its peers.

We also conducted a discounted cash flow ((DCF)) analysis for NVEC. Using a 10% weighted average cost of capital ((WACC)) for discounting, we are forecasting low single-digit revenue growth of 3% for FY23. Thereafter, we expect the revenue growth to increase gradually to achieve 20% by FY28. This revenue projection is based on the company’s leadership position and the estimated growth projection for the spintronics market (34% CAGR). Our model also assumes that the Free Cash Flow ((FCF)) margin will gradually decrease from the current 43% due to future growth investments and align more closely with the industry FCF averages.

Furthermore, we have incorporated a 5% revenue Compound Annual Growth Rate ((CAGR)) as a terminal growth value beyond the 10-year period.

Based on our DCF calculations, the business's fair value is approximately $437M. This valuation reveals a substantial upside potential for the stock, indicating a target price of $90.

Risks

We see the key risks for NVEC ((NVEC)) business as follows:

• Revenue dependence on few large customers : NVE has disclosed in their 10-K filing that they have some large customer revenue dependencies, such as Abbott Laboratories. These customers might have agreements that are due to expire, posing a potential risk to NVEC's revenue stream if not renewed.
• Intense Market Competition: The spintronics industry is witnessing increased competition risk as per their 10-K filing as more entities enter the market. These competitors could put considerable pricing pressure on NVEC and erode its competitive edge.
• Export or Trade Restriction: A portion of NVEC's revenue is derived from Asia. Any export restrictions or trade bans imposed on China could significantly affect the business.

Conclusion

NVE Corporation is a leading innovator in the spintronics market and a compelling investment opportunity. As a frontrunner in spintronics technology, NVEC has a strong competitive advantage and a huge potential to grow in the spintronics market. Based on our analysis, we think that NVEC is currently undervalued compared to its peers. Our DCF-based valuation indicates a substantial upside potential for NVEC, making it an attractive investment proposition.

We recommend a Buy rating for NVEC with a price target of $90.

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