Teradyne (TER)

Semiconductor testing company Teradyne (NASDAQ:TER) met Wall Street’s revenue expectations in Q1 CY2025, with sales up 14.3% year on year to $685.7 million. The company expects next quarter’s revenue to be around $645 million, close to analysts’ estimates. Its non-GAAP profit of $0.75 per share was 21.8% above analysts’ consensus estimates.

Company Overview

Sporting most major chip manufacturers as its customers, Teradyne (NASDAQ:TER) is a US-based supplier of automated test equipment for semiconductors as well as other technologies and devices.

Competitors in automated testing equipment include Advantest Corporation (TSE:6857), Cohu (NASDAQ:COHU), Keysight Technologies (NYSE:KEYS), and Rohde & Schwarz.

Examining a company’s long-term performance can provide clues about its quality. Any business can put up a good quarter or two, but the best consistently grow over the long haul. Unfortunately, Teradyne’s 3% annualized revenue growth over the last five years was sluggish. This fell short of our benchmark for the semiconductor sector and is a poor baseline for our analysis. Semiconductors are a cyclical industry, and long-term investors should be prepared for periods of high growth followed by periods of revenue contractions.

Long-term growth is the most important, but short-term results matter for semiconductors because the rapid pace of technological innovation (Moore's Law) could make yesterday's hit product obsolete today. Teradyne’s performance shows it grew in the past but relinquished its gains over the last two years, as its revenue fell by 1.9% annually.

This quarter, Teradyne’s year-on-year revenue growth was 14.3%, and its $685.7 million of revenue was in line with Wall Street’s estimates. Beyond meeting estimates, this marks 4 straight quarters of growth, implying that Teradyne is in the middle of its cycle - a typical upcycle generally lasts 8-10 quarters. Company management is currently guiding for a 11.6% year-on-year decline in sales next quarter.

Looking further ahead, sell-side analysts expect revenue to grow 6% over the next 12 months. While this projection suggests its newer products and services will catalyze better top-line performance, it is still below the sector average.

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.

This quarter, Teradyne’s DIO came in at 116, which is 33 days above its five-year average, suggesting that the company’s inventory has grown to higher levels than we’ve seen in the past.

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.

Teradyne’s gross margin is well ahead of its semiconductor peers, and its strong pricing power is an output of its differentiated, value-add products. As you can see below, it averaged an excellent 58.3% gross margin over the last two years. That means Teradyne only paid its suppliers $41.69 for every $100 in revenue.

Teradyne produced a 60.6% gross profit margin in Q1, up 4 percentage points year on year. Teradyne’s full-year margin has also been trending up over the past 12 months, increasing by 2.2 percentage points. If this move continues, it could suggest better unit economics due to more leverage from its growing sales on the fixed portion of its cost of goods sold (such as manufacturing expenses).

Operating margin is an important measure of profitability as it shows the portion of revenue left after accounting for all core expenses – everything from the cost of goods sold to advertising and wages. It’s also useful for comparing profitability across companies with different levels of debt and tax rates because it excludes interest and taxes.

Teradyne has managed its cost base well over the last two years. It demonstrated solid profitability for a semiconductor business, producing an average operating margin of 20.2%. This result isn’t surprising as its high gross margin gives it a favorable starting point.

Analyzing the trend in its profitability, Teradyne’s operating margin decreased by 7.9 percentage points over the last five years. This raises questions about the company’s expense base because its revenue growth should have given it leverage on its fixed costs, resulting in better economies of scale and profitability.

This quarter, Teradyne generated an operating profit margin of 17.6%, up 4.7 percentage points year on year. The increase was encouraging, and because its operating margin rose more than its gross margin, we can infer it was more efficient with expenses such as marketing, R&D, and administrative overhead.

Revenue trends explain a company’s historical growth, but the long-term change in earnings per share (EPS) points to the profitability of that growth – for example, a company could inflate its sales through excessive spending on advertising and promotions.

Teradyne’s flat EPS over the last five years was below its 3% annualized revenue growth. This tells us the company became less profitable on a per-share basis as it expanded due to non-fundamental factors such as interest expenses and taxes.

Diving into the nuances of Teradyne’s earnings can give us a better understanding of its performance. As we mentioned earlier, Teradyne’s operating margin improved this quarter but declined by 7.9 percentage points over the last five years. This was the most relevant factor (aside from the revenue impact) behind its lower earnings; taxes and interest expenses can also affect EPS but don’t tell us as much about a company’s fundamentals.

In Q1, Teradyne reported EPS at $0.75, up from $0.51 in the same quarter last year. This print easily cleared analysts’ estimates, and shareholders should be content with the results. Over the next 12 months, Wall Street expects Teradyne’s full-year EPS of $3.45 to grow 4.5%.

If you’ve followed StockStory for a while, you know we emphasize free cash flow. Why, you ask? We believe that in the end, cash is king, and you can’t use accounting profits to pay the bills.

Teradyne has shown impressive cash profitability, and if maintainable, will be in a position to ride out cyclical downturns more easily while continuing to invest in new and existing products. The company’s free cash flow margin averaged 18.3% over the last two years, better than the broader semiconductor sector.

Taking a step back, we can see that Teradyne’s margin was unchanged over the last five years, showing its long-term free cash flow profile is stable.

Teradyne’s free cash flow clocked in at $97.62 million in Q1, equivalent to a 14.2% margin. Its cash flow turned positive after being negative in the same quarter last year, but we wouldn’t put too much weight on the short term because investment needs can be seasonal, causing temporary swings. Long-term trends trump fluctuations.

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

Although Teradyne hasn’t been the highest-quality company lately because of its poor top-line performance, it found a few growth initiatives in the past that worked out wonderfully. Its five-year average ROIC was 41.7%, splendid for a semiconductor business.

One of the best ways to mitigate bankruptcy risk is to hold more cash than debt.

Teradyne is a profitable, well-capitalized company with $507.8 million of cash and $68.76 million of debt on its balance sheet. This $439 million net cash position is 3.6% of its market cap and gives it the freedom to borrow money, return capital to shareholders, or invest in growth initiatives. Leverage is not an issue here.

We were impressed by how significantly Teradyne blew past analysts’ EPS and adjusted operating income expectations this quarter. On the other hand, its inventory levels increased materially and its revenue and EPS guidance for next quarter were in line with Wall Street’s estimates. Overall, this quarter was mixed but still had some key positives. The stock traded up 4.3% to $80.15 immediately following the results.

Updated: May 22, 2025 at 10:26 PM EDT

Before investing in or passing on Teradyne, we urge you to understand the company’s business quality (or lack thereof), valuation, and the latest quarterly results - in that order.

Teradyne isn’t a terrible business, but it doesn’t pass our quality test. To kick things off, its revenue growth was weak over the last five years, and analysts don’t see anything changing over the next 12 months. And while its stellar ROIC suggests it has been a well-run company historically, the downside is its declining operating margin shows the business has become less efficient. On top of that, its unimpressive EPS growth over the last five years shows it’s failed to produce meaningful profits for shareholders.

Teradyne’s P/E ratio based on the next 12 months is 21.7x. Investors with a higher risk tolerance might like the company, but we think the potential downside is too great. We're fairly confident there are better stocks to buy right now.

Wall Street analysts have a consensus one-year price target of $99.83 on the company (compared to the current share price of $80.04).

Although the price target is bullish, readers should exercise caution because analysts tend to be overly optimistic. The firms they work for, often big banks, have relationships with companies that extend into fundraising, M&A advisory, and other rewarding business lines. As a result, they typically hesitate to say bad things for fear they will lose out. We at StockStory do not suffer from such conflicts of interest, so we’ll always tell it like it is.

Want to invest in a High Quality big tech company? We’d point you in the direction of Microsoft and Google, which have durable competitive moats and strong fundamentals, factors that are large determinants of long-term market outperformance.

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