Texas Instruments (NASDAQ:TXN), a leading manufacturer of semiconductors, reported its Q3 2012 earnings on Monday, October 22. Posting revenues of $3.39 billion, the company registered a 2% sequential increase, though on account of sluggish macro environment revenue declined by 2% on a yearly basis.
Regulatory changes in the US, a government change in China and the debt crisis in Europe are factors that have contributed to greater uncertainty in demand. As a result, TI is witnessing poor demand on account of low inventory levels at OEMs and distribution channels. The company marked a 5% sequential decline in orders in the third quarter and as a result expects to see significant downside in revenue this quarter.
Hitting a peak of $34 earlier this year, TI’s stock has been tracking lower since then. Apart from the macro headwinds, TI’s proposed exit from the smartphone and tablet business and the pressure on gross margins on account of low factory utilization are some of the factors that have contributed to the negative sentiment among investors.
However, based on its strengths in the core business of analog semiconductors and its increasing focus on embedded processors, we maintain a positive long-term outlook for TI. Additionally, judging by the decrease in operating expenses and lower inventory levels in Q3 2012, we feel that TI has been executing its operations fairly well in what is clearly a tough working environment.
We have a price estimate of $43.48 for Texas Instruments, which is at a premium of over 50% to the current market price
Increase in Gross Margins
At 51.3%, gross profits increased by 5% sequentially in Q3 2012. Comparatively higher revenue, including the $60 million business interruption insurance proceeds from the Japan earthquake settlement, and lower operating expense benefited the gross margins this quarter.
Texas Instrument has added around $7 billion worth of incremental revenue generating capacity in the last few years, with the acquisition of National Semiconductor and some other companies’ fabrications and equipment and factories. Thus, owing to the soft demand and excess manufacturing capacity, TI registered a slight increase in its under utilization charges in Q3 2012, which is expected to further increase this quarter.
At the start of the year,TI announced its decision to close down two old factories in Japan and Texas by the second half of 2013. The company claims that it has no plans to take any more capacity offline. However, it looks to further reduce its operating expense in light of the lower revenue target this quarter.
TI feels that the excess capacity gives it a competitive edge over other players in the analog market. While the weakness in demand may persist for a few more quarters, the company is confident that it can continue to manage its operations efficiently and keep margins in control.
Analog and Embedded Processing To Be The Primary Growth Engines
Generating strong cash flow and investment returns, the analog and embedded processor divisions remain the focus areas for TI. Both of these division registered marginal increases in revenue in Q3 2012, whereas, on account of the diminishing baseband revenue, the wireless segment posted a 44% y-o-y and a 5% q-o-q decline.
The analog division revenue registered a 18% y-o-y and a 2% sequential increase. While the yearly growth was on account of full quarter impact of revenues from National Semiconductors, the quarterly increase was driven by growth in high volume analog and logic as well as power management.
On account of lower revenue from communication infrastructure applications, the embedded processing division declined by 4% from a year ago. However, the division registered a marginal (2%) increase driven by growth in automotive and catalog products.
With new product launches, TI continues to expand its analog and embedded portfolio every quarter. The company registered an increase in it share in the analog segment this quarter as well. While the excess manufacturing capacity gathered over the years might weigh on the short term growth, we feel the same will help TI further increase its market share in the analog division in the future.
We are in the process of updating our price estimate of $43.48 for Texas Instruments for the Q3 2012 earnings release.