2023-08-14 06:44:32 ET
Summary
- Allegro MicroSystems has shown strong revenue growth and operating leverage, driving its shares higher.
- The company recently announced a $420 million cash deal to acquire Crocus Technology, which will boost its capabilities in the magnetic sensor market.
- Despite solid profitability, the current valuation of Allegro MicroSystems at 30 times earnings is steep, as a price drop to $30 would make it more attractive.
It was over two years ago when I believed that shares of Allegro MicroSystems ( ALGM ) were displaying a bit too much momentum soon after its IPO, leaving a non-compelling risk-reward proposition in my view.
The company has more than lived up to its promises, combining solid revenue growth with real strong operating leverage on the bottom line, a combination which has driven shares rightfully higher. To see further appeal here, I would require a small discount before getting involved at current premium valuations.
A Recap
Allegro went public in November 2020 as the industrial and automotive semiconductor player seemed well positioned, but performance was lagging compared to peers. This underperformance stood on the basis of lower sales multiples attached to the business, but for appeal to unfold real execution was required, which is always a big if.
Allegro designs, develops, and manufactures sensors and application-specific integrated circuits, typically used to measure motion, speed, position, and current in automotive and industrial applications.
The integrated nature of the ICs should provide a combative advantage (according to management), as automotive and industrial sectors have traditionally been lagging with adoption as well. That said, the rise of autonomous driving, increased usage of robotics and more connectedness in production would drive long-term appeal. With a co-development strategy resulting in an asset-light capital strategy, Allegro believes that the set-up should make growth not that capital-intensive.
In the immediate aftermath of the public offering, shares ended the first day of trading at $18 per share. The resulting $3.3 billion operating asset valuation valued operations at roughly 6 times sales of $542 million for 2020, pro forma some divestments. With operating earnings reported at $66 million, a more than 50 times operating earnings multiple looked too rich to me to see the appeal. This came as sales for the first quarters of the fiscal year 2021 (in the calendar year 2022) were actually falling further.
By April 2021, shares traded around $25 per share, after shares hit an intermediate high of $35 per share, as third quarter results actually rose by 21% to $164 million and the company provided a solid fourth quarter sales guidance at $165-$169 million, with modest adjusted earnings seen. With a prevailing $4.4 billion operating asset valuation at $25, I was still cautious at 6-7 times sales and a sky-high realistic earnings multiple.
Taking Off
My cautious stance at $25 in the spring of 2021 has been right for a considerable period of time. While shares ended 2021 around the $35 mark, they traded at just $20 in the summer of 2022. What followed was a strong recovery since late summer 2022 as shares rose to the $50 mark in 2023, now having sold off to $39 per share.
In the spring of 2022, the company posted a 30% increase in full year sales to $769 million as an operating profit of $136 million resulted in net earnings of $119 million, or $0.62 per share (based on GAAP accounting), which is far better than I believed was realistically possible at the time of the public offering.
The fiscal year 2023 results (for the year ending in March of this year) revealed a 27% increase in sales to $974 million as operating profits improved to $203 million, and earnings of $188 million working down to $0.97 per share. While two-thirds of sales were generated in the automotive sector, the industrial sector has seen rather strong growth as well.
In August, first quarter results for the fiscal year 2024 revealed that revenues rose by 28% to $278 million, trending at a $1.1 billion run rate. The company showed very strong leverage with operating earnings of $70 million working down to a $0.31 per share earnings number, with the industrial sector being very strong. Note however that sequential growth no longer was that strong, as the midpoint of the second quarter sales guidance at $275 million reveals an expectation of flattish results, at least sequentially.
The 195 million shares now value equity at $7.6 billion at $39 per share, although that this number includes a $328 million net cash position. Adjusted for that, a $7.3 billion valuation works down to a nearly 7 times sales multiple, but by now sales are very profitable with GAAP earnings trending at $1.25 per share.
A Deal
Just after the first quarter results, Allegro announced a $420 million cash deal to acquire Crocus Technology, in a deal set to deplete the net cash position in its entirety.
With the deal, Allegro will obtain expertise in Tunnel Magnetoresistance sensor technology, with the magnetic sensor market set to post strong growth in the company's target markets. The deal is substantial at just over 5% of the current market capitalization and while no revenue contribution was shared in the process release, the deal likely comes at a significant premium but will boost the capabilities of the business as well.
Final Remarks
With shares down around $10 in response to the deal and earnings release (mostly the latter), the valuation has been reset in a substantial way. The company trades at a similar sales multiple to the time of its IPO, but in contradiction has achieved solid profitability. This is welcomed, yet a current 30 times multiple still looks a bit steep, after growth is slowing down quite a bit and is set to come to a near standstill.
This makes that shares deserve a spot on the watchlist, as I am happy to pay a premium earnings multiple for this decent player, just not 30 times earnings. If shares were to revert to the $30 mark, I would be happy to pick up a few shares here.
For further details see:
Allegro MicroSystems: Sensors On