2023-10-11 12:01:58 ET
Summary
- While overall growth is stagnant, Fabrinet's datacom business segment is showing remarkable promise, with significant revenue growth.
- The stock's valuation, at 22 times forward earnings, may not be considered cheap, but Fabrinet maintains a strong balance sheet with virtually no debt and a substantial cash reserve.
- The company's financial outlook suggests it could achieve approximately $8 of earnings per share in fiscal 2024.
Investment Thesis
Fabrinet (FN) specializes in providing advanced manufacturing and packaging services to OEMs, with a focus on complex products like optical communication components, industrial lasers, automotive parts, medical devices, and sensors. While overall growth has been stagnant, Fabrinet's datacom business is a bright spot, poised to become a significant driver for the company in the near future.
However, it's worth noting that Fabrinet's forward price-to-earnings (P/E) ratio of 22x doesn't position it as a cheap investment. On the flip side, the company boasts a strong balance sheet , providing maneuverability.
In conclusion, my stance on Fabrinet stock is cautiously bullish.
Fabrinet's Near-Term Prospects
Fabrinet excels in providing advanced manufacturing and packaging services for OEMs, particularly in the optical communication components, industrial lasers, automotive parts, medical devices, and sensors sectors. Their expertise spans optics, electronics, and mechanics, making them a sought-after partner for intricate, high-quality products.
Fabrinet's near-term outlook appears promising, with remarkable growth in the datacom segment, driven by the 800-gig AI data center transceiver program for one of its customers. While specific financial details remain undisclosed, this performance hints at substantial opportunities in the datacom sector.
However, Fabrinet faces challenges, notably in its telecom segment. The company anticipates that near-term inventory correction issues will persist, particularly in the telecom business, as a result of inventory digestion at customers and their customers.
Above we can see Fabrinet's revenue breakdown. As you can see in the table, above, even though Fabrinet's Datacom business is rapidly growing, it's still a relatively small part of its optical communications segment.
What's more, as you may expect, the precise duration of these challenges remains uncertain, and while the company remains optimistic about its overall market position and the potential for continued growth in AI-related programs, addressing these inventory-related headwinds in the telecom sector is a priority for the near term. The company's success in adapting to these challenges and restoring balance in its telecom business will be a crucial factor to monitor going forward.
With this context in mind, let's delve into its financials.
Fabrinet Revenue Growth Rates
As previously mentioned, Fabrinet's growth rates are facing pressure due to near-term inventory correction challenges. Here's the quote from the earnings call that reiterates this guidance,
Looking to the first quarter and beyond, we expect the near-term inventory correction that our customers are experiencing to persist. However, we are confident that the very strong datacom performance we saw in the fourth quarter will continue to largely offset these inventory-related headwinds in our fiscal first quarter.
Simply put, for now, Fabrinet's inventory correction continues to put a ceiling on its revenue growth rates. Moreover, it's difficult to make the case that, in the very near term, Fabrinet's comparables will ease up.
Essentially, investors have to come to terms with that for fiscal 2024, perhaps the most that investors can wish for is Fabrinet's growth rates to deliver mid-single-digit growth rates, however, that's not where this story ends.
Profitability Profile: Mixed Bag
The bad news is that Fabrinet's Q1 2024 points to around $1.90 EPS, which is down nearly 4% y/y. The good news, if Fabrinet continues on this path in fiscal 2024, it looks very much attainable for Fabrinet to deliver around $8 of EPS.
This would imply that the stock is priced at around 22x forward EPS. This is not the cheapest valuation out there, for a business with essentially no top line growth.
On the other hand, we have to keep in mind that Fabrinet practically has no debt on its balance sheet and more than 7% of its market cap is made up of cash. This strong balance sheet not only provides the business with a margin of safety but also allows management to repurchase shares from time to time.
Indeed, together with its Q4 2023 results , Fabrinet announced that it's expanding its share repurchase program by close to $50 million to approximately $150 million remaining.
The Bottom Line
In my evaluation of Fabrinet, I find that while the company faces certain challenges, particularly in terms of stagnant overall growth, its datacom business segment holds strong promise for the future.
However, the stock's valuation at 22 times forward earnings does not categorize it as a cheap investment.
On a more positive note, Fabrinet boasts a robust balance sheet with virtually no debt and a significant cash balance, offering a level of financial security, while enabling share repurchases.
With an outlook that points toward achieving around $8 of earnings per share in fiscal 2024, the forward P/E ratio may not be the most attractive, but it does have its merits. My stance remains cautiously optimistic.
For further details see:
Fabrinet's Datacom Business: A Beacon Of Growth