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Analog Devices (NASDAQ:ADI) Q1 Sales Beat Estimates, Stock Soars


Full Report / May 22, 2024

Manufacturer of analog chips, Analog Devices (NASDAQ:ADI) reported Q1 CY2024 results exceeding Wall Street analysts' expectations, with revenue down 33.8% year on year to $2.16 billion. Guidance for next quarter's revenue was also optimistic at $2.27 billion at the midpoint, 4.5% above analysts' estimates. It made a non-GAAP profit of $1.40 per share, down from its profit of $2.83 per share in the same quarter last year.

Analog Devices (ADI) Q1 CY2024 Highlights:

  • Revenue: $2.16 billion vs analyst estimates of $2.11 billion (2.5% beat)
  • EPS (non-GAAP): $1.40 vs analyst estimates of $1.27 (10.3% beat)
  • Revenue Guidance for Q2 CY2024 is $2.27 billion at the midpoint, above analyst estimates of $2.17 billion
  • Gross Margin (GAAP): 54.7%, down from 65.7% in the same quarter last year
  • Inventory Days Outstanding: 137, up from 136 in the previous quarter
  • Free Cash Flow of $619.7 million, down 32.3% from the previous quarter
  • Market Capitalization: $107.4 billion

Founded by two MIT graduates, Ray Stata and Matthew Lorber in 1965, Analog Devices (NASDAQ:ADI) is one of the largest providers of high performance analog integrated circuits used mainly in industrial end markets, along with communications, autos, and consumer devices.

ADI is one of the largest analog chip makers, and is a major supplier of converters, amplifiers, sensors, and digital signal processing chips used by over hundred thousand customers.

ADI has been an active consolidator in the space, acquiring Hittite Microwave in 2014 which added radio frequency or RF chips to its portfolio, Linear Technology in 2017 which bolstered ADI’s power management chips. In 2021 it closed its $21 billion acquisition of Maxim Integrated, which increased ADI’s exposure to faster growing automotive and data center end markets.

Analog Devices’ peers and competitors include Texas Instruments (NASDAQ: TXN), Skyworks (NASDAQ:SWKS), Infineon (XTRA:IFX), NXP Semiconductors NV (NASDAQ:NXPI), ON Semi (NASDAQ:ON), Marvell Technology (NASDAQ:MRVL), and Microchip (NASDAQ:MCHP).

Analog Semiconductors

Longer manufacturing duration allows analog chip makers to generate greater efficiencies, leading to structurally higher gross margins than their fabless digital peers. The downside of vertical integration is that cyclicality can be more pronounced for analog chipmakers, as capacity utilization upsides work in reverse during down periods. Read More The semiconductor industry is broadly divided into analog and digital semiconductors. Digital chips are what most people think of as the brains of almost every electronic device. Their primary purpose is to either store (memory chips) or process (CPUs/GPUs) data. By comparison, analog chips regulate real world signals, such as temperature, speed, sound, or electrical current, converting them into a stream of digital data that can be processed by digital semiconductors. Analog semiconductors are also used to manage power in any electronic device; they convert, store and distribute the electrical energy that comes from a battery or wall plug. Analog chips are found everywhere from household appliances like refrigerators or washing machines, to smartphones, cars and factory production lines.

Sales Growth

Analog Devices's revenue growth over the last three years has been strong, averaging 24.8% annually. But as you can see below, its revenue declined from $3.26 billion in the same quarter last year to $2.16 billion. Semiconductors are a cyclical industry, and long-term investors should be prepared for periods of high growth followed by periods of revenue contractions (which can sometimes offer opportune times to buy).

Analog Devices Total Revenue

Even though Analog Devices surpassed analysts' revenue estimates, this was a slow quarter for the company as its revenue dropped 33.8% year on year. This could mean that the current downcycle is deepening.

Analog Devices's revenue growth has decelerated over the last three quarters and its management team projects revenue to fall next quarter. As such, the company is guiding for a 26.2% year-on-year revenue decline while analysts are expecting a 8.9% drop over the next 12 months.

Product Demand & Outstanding Inventory

Days Inventory Outstanding (DIO) is an important metric for chipmakers, as it reflects a business' capital intensity and the cyclical nature of semiconductor supply and demand. In a tight supply environment, inventories tend to be stable, allowing chipmakers to exert pricing power. Steadily increasing DIO can be a warning sign that demand is weak, and if inventories continue to rise, the company may have to downsize production.

Analog Devices Inventory Days Outstanding

This quarter, Analog Devices's DIO came in at 137, which is 20 days above its five-year average, suggesting that the company's inventory has grown to higher levels than we've seen in the past.

Pricing Power

In the semiconductor industry, a company's gross profit margin is a critical metric to track because it sheds light on its pricing power, complexity of products, and ability to procure raw materials, equipment, and labor. Analog Devices's gross profit margin, which shows how much money the company gets to keep after paying key materials, input, and manufacturing costs, came in at 54.7% in Q1, down 11.1 percentage points year on year.

Analog Devices Gross Margin (GAAP)

Despite declining over the last 12 months, Analog Devices still retains reasonably high gross margins, averaging 59.8%. These margins point to its solid competitive offering, disciplined cost controls, and lack of significant pricing pressure.

Profitability

Analog Devices reported an operating margin of 39% in Q1, down 12.2 percentage points year on year. Operating margins are one of the best measures of profitability because they tell us how much money a company takes home after manufacturing its products, marketing and selling them, and, importantly, keeping them relevant through research and development.

Analog Devices Adjusted Operating Margin

Analog Devices's operating margins have been trending down over the last year, averaging 43.8%. However, the company's profitability remains one of the highest in the industry, driven by its strong gross margins and economies of scale generated from its highly efficient operating model.

Earnings, Cash & Competitive Moat

Wall Street expects earnings per share to decline 11.8% over the next 12 months, although estimates will likely change after earnings.

Although earnings are important, we believe cash is king because you can't use accounting profits to pay the bills. Analog Devices's free cash flow came in at $619.7 million in Q1, down 22.3% year on year.

Analog Devices Free Cash Flow

As you can see above, Analog Devices produced $3.06 billion in free cash flow over the last 12 months, an eye-popping 29.3% of revenue. This is a great result; Analog Devices's free cash flow conversion places it among the best semiconductor companies and, if sustainable, puts the company in an advantageous position to invest in new products while remaining resilient during industry downturns.

Return on Invested Capital (ROIC)

EPS and free cash flow tell us whether a company was profitable while growing revenue. But was it capital-efficient? A company’s ROIC explains this by showing how much operating profit a company makes compared to how much money the business raised (debt and equity).

Analog Devices's five-year average ROIC was 7.9%, somewhat low compared to the best semiconductor companies that consistently pump out 35%+. Its returns suggest it historically did a subpar job investing in profitable business initiatives.

Analog Devices Return On Invested Capital

The trend in its ROIC, however, is often what surprises the market and drives the stock price. Unfortunately, Analog Devices's ROIC averaged 1.8 percentage point decreases over the last few years. Paired with its already low returns, these declines suggest the company's profitable business opportunities are few and far between.

Key Takeaways from Analog Devices's Q1 Results

We were impressed by how significantly Analog Devices blew past analysts' EPS expectations this quarter. We were also glad next quarter's revenue guidance came in higher than Wall Street's estimates. . Zooming out, we think this was a a very solid quarter, showing that the company is staying on track. The stock is up 5.3% after reporting and currently trades at $227.98 per share.

Is Now The Time?

When considering an investment in Analog Devices, investors should take into account its valuation and business qualities as well as what's happened in the latest quarter.

Although we have other favorites, we understand the arguments that Analog Devices isn't a bad business. We'd expect growth rates to moderate from here, but its revenue growth has been strong over the last three years. And while its relatively low ROIC suggests it has struggled to grow profits historically, the good news is its powerful free cash generation enables it to sustainably invest in growth initiatives while maintaining an ample cash cushion.

Analog Devices's price-to-earnings ratio based on the next 12 months is 34.3x. We don't really see a big opportunity in the stock at the moment, but in the end beauty is in the eye of the beholder. And if you like the company, it seems that Analog Devices doesn't trade at a completely unreasonable price.

Wall Street analysts covering the company had a one-year price target of $217.55 per share right before these results (compared to the current share price of $227.98).

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