TER - Teradyne's Market Drivers And Challenges

2023-09-26 06:14:38 ET

Summary

• Teradyne faces ongoing uncertainty, with seven consecutive quarters of negative year-over-year revenue growth.
• The company's substantial net cash reserves, nearly $800 million, provide a buffer against short-term concerns.
• Despite revenue challenges, Teradyne continues to generate free cash flow, offering stability for investors.

Investment Thesis

Teradyne's (TER) business is in a difficult spot. Presently, its outlook for Q3 2023 points to around negative 15% y/y revenue growth rates. This will mark its 7th consecutive quarter of negative y/y revenue growth rates. With this framing at the center of our discussion, it's difficult to get particularly compelled by an investment in Teradyne.

That being said, the one bullish aspect that's worthwhile keeping in mind is that Teradyne's balance sheet holds nearly $800 million of net cash. Given that Teradyne is free cash flow generative, despite numerous quarters of negative revenue growth, this means there's no near-term concern for investors. The business is on stable footing.

But on balance, it's difficult to get seriously excited about this investment. Hence, I'm neutral on this stock.

Teradyne's Near-Term Prospects

Teradyne is a leader in automated test equipment and robotics solutions. They specialize in creating and selling automatic test systems and robotics products used across industries such as consumer electronics, wireless communication, automotive, and more. Their offerings include semiconductor test systems, storage and system-level test systems, wireless test solutions, collaborative robotic arms, and autonomous mobile robots ("AMRs").

Teradyne has four segments, Semiconductor Test, System Test, Wireless Test, and Robotics. By far, its Semiconductor segment is the biggest, see below.

Teradyne's Semiconductor Test segment focuses on providing test solutions for various semiconductor devices. Whereas its System Test segment encompasses Storage Test, Defense/Aerospace, and Production Board Test units, delivering high-throughput automated manufacturing tests for hard drives, semiconductors, and electronic circuit boards.

Since its Wireless Test segment isn't a needle move, I haven't focused on this segment.

That leaves us with its Robotics segment. Teradyne believes that there are attractive market drivers in robotics, including aging populations, rising wages, labor shortages, and the reshoring of production to reduce costs and cycle time.

Teradyne's long-term vision for the robotics segment is to achieve a "rule of 40" status. Even though at present Teradyne's profitability in this segment isn't even at breakeven.

Moreover, Teradyne's Semiconductor Tester segment has been experiencing a correction cycle driven by excess inventory, particularly affecting the mobility sector, but Teradyne believes this is temporary and will return to strength.

With this context in mind, let's get to Teradyne's financials.

Revenue Growth Rates Are Not Enticing

As you can see above, Teradyne's revenues at the moment are pointing in the wrong direction. That being said, I suspect that Teradyne's deep cyclicality may be starting to come to an end, slowly. Why?

Because the guidance for Q3 doesn't look quite as negative y/y as either Q1 or Q2. To be clear, this doesn't mean that there's light at the end of the tunnel quite yet. Simply that Teradyne's revenue growth rates don't appear to be becoming worse.

Next, let's turn our focus to discussing its underlying profitability.

TER Stock Valuation -- Fairly Valued

As you can see above, Teradyne's multiple has consistently hovered around 5x forward sales for the majority of 2023. This tells me that despite Teradyne continuing to point to shrinking revenues, quarter after quarter, investors are attempting to look beyond the next couple of quarters to greener pastures ahead.

Where Teradyne shines particularly strongly is in its underlying free cash flow capacity. Case in point, Q2 2023 saw Teradyne report $104 million of free cash flow, which when combined with the negative $22 million from Q1 2023 means that Teradyne's H1 2023 free cash flow reached $82 million.

On the one hand, this means that Teradyne's Q2 2023 free cash flow was substantially higher than in Q2 2022, at $70 million. But on the other hand, it looks difficult to see a scenario where Teradyne could in 2023 match its free cash flows of any of its past 5 years.

The Bottom Line

Teradyne's outlook is quite uncertain, with seven consecutive quarters of negative year-over-year revenue growth, the latest being around -15% for Q3 2023. Despite this, the company's robust balance sheet, boasting nearly $800 million in net cash, provides some stability.

Teradyne continues to generate free cash flow, alleviating immediate concerns. However, the overall investment picture doesn't spark excitement, leading me to adopt a neutral stance.

Teradyne operates in automated test equipment and robotics across various industries, including semiconductors and electronic circuit boards. The Robotics segment shows promise in the long term, despite current profitability challenges. While revenue growth has been declining, there are hints that the downturn may be levelling off. Teradyne's valuation remains fairly consistent, with investors looking beyond current challenges. Nevertheless, the company's underlying free cash flow capacity remains a strong point, even though matching the free cash flows reported in previous years seems challenging, at least for now.

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