Buying Opportunity in Pockets of Semiconductor Space

Semiconductor stocks have been hit hard in the wake of the novel coronavirus (COVID-19) epidemic that has severely disrupted both chip production and demand in China and neighboring countries. Shares of the PHLX semiconductor sector index are down 19% after peaking in mid-February. We had previously viewed many semiconductor names in our coverage universe as overvalued, but the recent pullback has led to multiple names reaching or approaching 4-star territory. Namely, Intel (INTC), Broadcom, Qualcomm, Xilinx, Applied Materials (AMAT), and KLA (KLAC) are all undervalued. Of these names, our top pick is wide-moat Intel ($70 per share fair value). Wide-moat equipment suppliers such as KLA and Applied also appear attractive at current levels, with unchanged fair value estimates of $160 and $65 per share, respectively.

We continue to expect competitive headwinds from AMD to impact Intel over the next few quarters. At its analyst day on March 5, AMD noted 15% of its 2019 sales came from the data center and set a long-term sales growth target of 20%, with data center contributing more than 30% of total revenue. We think this implies a $5 billion target for AMD’s data center sales (CPUs and GPUs) by 2024, which is considerably above our estimate of $3.5 billion (CPUs only). We believe Intel will ably navigate the near-term challenges while investing in critical process and design technologies (7-nanometer, Artificial Intelligence, and automotive).

Despite the uncertainty regarding COVID-19, Applied CEO Gary Dickerson noted he doesn’t anticipate a material impact to the firm’s 2020 results when the firm reported on Feb. 12. While revenue guidance for Applied’s next quarter would have been about $300 million higher at the midpoint absent the near-term risks, management was confident this shortfall was not permanent demand destruction. KLA’s management expects revenue in the March quarter to be $1.325 billion-$1.525 billion, with the coronavirus contributing to a wider-than-typical range.