2023-03-30 07:03:58 ET
Summary
- I am worried about STM's reasonably high proportion of sales generated from the consumer electronics end-market and its biggest customer.
- On the other hand, I have a favorable view of STMicroelectronics' automotive vertical and silicon carbide business considering favorable trends like electrification and vehicle autonomy.
- I have a Neutral view of STM, as I see the stock as fairly valued taking into account both short-term concerns and long-term growth prospects.
Elevator Pitch
I assign a Hold investment rating to STMicroelectronics N.V.'s ( STM ) shares. In my opinion, the risk-reward for STM is balanced based on the stock's current valuations. STM's share price has gone up to historical peak levels, which should have priced in the good historical performance and positive outlook of its silicon carbide business. But the risks relating to end-market and client concentration still exist, so further share price appreciation for STMicroelectronics isn't justified.
Business Overview
On its investor relations website, STM describes itself as "a global independent semiconductor company" which was established in 1987 and listed on the NYSE in 1994. Media company Nikkei refers to STMicroelectronics as one of the top three manufacturers of "microcontroller chips" globally.
The Americas, Asia Pacific, and EMEA (Europe, the Middle East and Africa) geographic regions (where clients originated from) accounted for 41%, 30%, and 29% of STM's revenue, respectively in fiscal 2022. On the other hand, STMicroelectronics derived 37%, 32%, and 31% of its FY 2022 top line from its ADG (Automotive & Discrete Group), MDG (Microcontrollers &. Digital ICs Group), and AMS (Analog, MEMS & Sensors Group) product segments, respectively.
Meaningful Exposure To Personal Electronics And Apple Is A Concern
I am of the view that there are significant downside risks relating to STMicroelectronics' revenue and earnings in the short term, due to the company's exposure to specific end-markets and clients.
In its Q4 2022 earnings presentation slides , STM disclosed that it generated more than a quarter, or 27% to be exact, of its sales from the personal electronics end-market last year. STMicroelectronics' personal electronics vertical was an underperformer for the company in 2022 boasting a mere +2% sales growth for the prior year as revealed at its Q4 2022 results call . In contrast, revenue derived from STM's automotive, industrial, and communications equipment & computer peripherals end-markets grew strongly by +51%, +34%, and +19%, respectively, for FY 2022.
Any hopes of a swift recovery in personal electronics vertical sales in 2023 have been dashed. STMicroelectronics acknowledged at Citi's ( C ) European TMT Conference (event transcript sourced from S&P Capital IQ ) on March 14, 2023 that the performance of the personal electronics end-market was "still weak" in Q1 2023 due to "excess inventories which has been built last year on personal computers and smartphones."
For Apple specifically, 31 of the 44 Wall Street analysts covering AAPL's shares have revised their respective full-year FY 2023 (YE September 30) top line projections in the past three months. Separately, Seeking Alpha News reported earlier on March 14, 2023 that Apple is "reportedly delaying bonuses for some of its divisions and may freeze hiring in certain parts of the company." Recent corporate news flow and changes to the sell-side's revenue estimates suggest that demand for AAPL's products and services in the near term could turn out to be much weaker than expected. It will be tough for STMicroelectronics to turn in a good set of results in the short term, when its biggest client isn't expected to perform well.
Silicon Carbide Business Has Done Well Thanks To Automotive Industry Tailwinds
Notably, STMicroelectronics' shares are currently trading close to their historical peak despite the risk factors which I have mentioned in the previous section. I will touch on what is the key driver of STM's stock price performance and determine if this is sustainable in this section of the article.
STM's shares last closed at $51.59 at the end of the March 29, 2023 trading day, which is just slightly lower than its 52-week and all-time stock price high of $52.11 registered during intra-day trading on the same day.
I believe that the market is rewarding STMicroelectronics for its good recent performance and its favorable long-term outlook driven by automotive industry tailwinds. STM's earnings per share or EPS grew by +94% YoY to $4.19 in FY 2022, which also came in +5.6% above the market's expectations.
In the preceding section, I highlighted that the automotive end-market was the best performing industry vertical for STM last year having delivered a +51% sales growth. STMicroelectronics noted at its Q4 2022 earnings briefing that its "silicon carbide business" leveraged on the "car electrification" trend to secure a "range of wins." In other words, the above-expectations performance of STM's automotive vertical was the main driver of the company's strong bottom line earnings expansion in the prior year.
Looking forward, the automotive end-market boasts substantial growth potential for STM. At its May 2022 Capital Markets Day , STMicroelectronics cited third-party research from Goldman Sachs ( GS ) and Strategy Analytics highlighting that silicon content on a per-vehicle basis is expected to grow by 2.5 times and over 2.0 times due to autonomous driving and vehicle electrification trends, respectively in the future.
Revenue contributed by STM's silicon carbide business increased from around $500 million in FY 2021 to roughly $700 million for FY 2022. Moving ahead, STM guided for sales of $2 billion for its silicon carbide business in 2025 at the Citi European TMT Conference in mid-March 2023. This implies that STMicroelectronics' silicon carbide business will make up a significant 10% of the company's 2025 revenue target of $20 billion.
Peer Valuation Comparison
As mentioned above, STMicroelectronics' current stock price is close to its historical peak, and I deem STM's valuations to be fair now. As per S&P Capital IQ's valuation data, STM's valuation discount vis-a-vis its closest peer, Infineon Technologies AG ( OTCQX:IFNNY ) ( OTCQX:IFNNF ) [IFX:GR], is now much narrower than what it was historically, and I don't think this is justified. STMicroelectronics is now valued by the market at 7.49 times consensus forward next twelve months' EV/EBITDA, while Infineon Technologies' shares are currently trading at a forward EV/EBITDA multiple of 8.58 times. The 10-year mean forward EV/EBITDA multiple for STM is 7.86 times as compared to a historical average forward EV/EBITDA ratio of 9.36 times for Infineon in the last decade. This implies that the valuation discount between STM and Infineon has narrowed from -16% (10-year average) to -13% currently.
Infineon's sales exposure to personal electronics (smartphones, gaming and TVs) is estimated to have represented about 21% of its FY 2022 revenue, which is lower that of STM (27%). But Infineon is a larger player in the automotive segment boasting a 12.7% of the worldwide automotive semiconductor market in 2021, as compared to a much lower 7.5% market share for STM.
Separately, the market also values STMicroelectronics at a premium as compared to another one of its peers, Renesas Electronics Corporation ( OTCPK:RNECF ) ( OTCPK:RNECY ) [6723:JP]. Renesas currently trades at a relatively lower consensus forward next twelve months' EV/EBITDA of 7.49 times, but its 2021 share of the global auto semi industry at 8.4% is higher than that for STM (7.5%).
In a nutshell, STMicroelectronics has greater exposure to the underperforming personal electronics, and it is a relatively smaller player in the auto semi market as compared to Infineon and Renesas. But Infineon is now trading at a narrower valuation premium over STM as it did in the past, while STM still enjoys a valuation premium over Renesas. This suggests that positives for STM relating to automotive tailwinds and the strength of its silicon carbide business have already been largely factored into its share price and valuations.
Closing Thoughts
A Hold rating for STMicroelectronics' stock is appropriate, as there are both risks and rewards associated with the company's shares. The key risk for STM is below-expectations financial performance in the short term as a result of weaker than expected sales for the personal electronics vertical and Apple. The major long-term growth driver for STMicroelectronics is its silicon carbide business which is a beneficiary of automotive industry tailwinds.
For further details see:
STMicroelectronics: Valuations Are Fair