Texas Instruments (NYSE:TXN), the global analog and digital semiconductor chips manufacturer, believes its results to have bottomed out with its Q1 2012 earnings after years of struggling to turn around its business. (See Our Related Article: Texas Instrument Is Ready For A Recovery As Results Mark The Bottom) We agree and believe that the company is well positioned to service the rising demand in 2012 and thereafter. However, the market seems to feel otherwise with the stock declining by almost 15% in the past year, reaching as low as $25 in August 2011.
Given our optimistic forecast and a price estimate of $45.49, which is at a premium of around 60% to the current market price, we discuss certain downside scenarios to our forecasts.
30% Downside | $32 Price Estimate
1. TI’s Market Share in Analog Semiconductors Could Drop Down To 2011 Levels (-10%)
With a 55% contribution to our price estimate, the analog segment continues to be the most valuable segment for TI, generating around 50% revenues and profits for the company in 2011. TI is currently the market leader in this segment and based on its superior product offerings and bigger sales and field application staff, we estimate its share to further increase throughout our forecast period.
We based our forecast on the following factors:
- Strengthening of the analog portfolio with acquisition of National Semiconductors.
- Voltage regulators, which is the mainstay product in TI’s analog portfolio, is expected to grow at an annual rate of 16%, compared to the overall analog segment’s annual growth rate of 6.3%.
- With the RFAB acquistion, TI has managed to considerably lower its lead time and we expect it to continue on the same pace.
However, there is a possibility that the positive synergies with National Semiconductor do not come about in the long term. If our estimate turns out to be too optimistic and TI’s market share in analog semiconductors drops down to the 2011 levels by the end of our forecast period, we could see around 10% downside to our current price estimate.
2. Growing Competition In Wireless Segment Could Bring Down TI’s Market Share (-10%):
TI’s market share in wireless semiconductors has witnessed a considerable downside since 2009, as a result of its decision to completely phase out the cellular baseband division by the end of 2012. Historically, the baseband division has contributed around 60% to TI’s wireless revenue. The decreased contribution has led to a decline in the company”s market share from 15% in 2009 to the current level of around 9%.
However, we believe that going forward TI will be able to retain its current market share of 9% throughout the forecast period. TI’s unique offerings in the wireless connectivity solutions, like the WiLink 8, the industry’s first combo chip to combine five wireless technologies onto one SoC (WLAN/Bluetooth/GPS/FM/NFC) and its new line of OMAP application processors will help it secure more design-wins with its customers.
On account of new innovative offerings in application processors and connectivity solutions – Industry’s First Demonstration Of ZigBee Light Link Featuring TI Chips , Miracast Certified OMAP Processors and a work-in-progress Windows RT tablet, we believe that these could become the revenue drivers for the wireless division.
TI already faces fierce competition in this segment from other ARM based players such as Qualcomm (NASDAQ:QCOM) and Nvidia (NASDAQ:NVDA. With the entry and growing prominence of Intel (NASDAQ:INTC) in the wireless segment, the competition is bound to intensify in the long term. In the likely scenario of TI’s market share dropping down to 5% by the end of our review period, we can account for a close to 10% downside in our price estimate.
3. Additional Cost Of Incremental Capacity Could Reduce Gross Margins (-10%):
Historically, TI’s overall margins have remained in the range of 50-55%. We believe, that the new wafer fab production facilities will provide better product yield in the future, thus driving down costs. Moreover, the complete phasing out of baseband by 2012 will reduce its overall R&D costs to that effect.
Owning fabrication units has cost advantages compared to outsourced fabrication, however it also comes with the added risk of higher operating costs in periods of lower demand. Due to such a scenario in 2011, the company saw its gross profits come down to the level of 49%.
With the acquisition of National Semiconductor and some other companies’ fabrications and equipment and factories, Texas Instrument has added around $7 billion worth of incremental revenue generating capacity. If demand fails to pick up at the expected pace, this additional capacity could increase operating cost, which in turn would put a downward pressure on margins.
If the gross margins for the analog division drop down to 48% by the end of our forecast period, then we can account for an approximate 10% downside to our price estimate.
However, even accounting for the above mentioned scenarios leaves our estimate at a considerable premium above the current market price.