Demand for consumer electronics like tablets, notebooks, and wearables continues to be healthy given the work-from-home and overall “stay-at-home” trend, and that’s continuing to boost the results at Dialog Semiconductor (OTCPK:DLGNF). Not only did management guide to a healthy beat relative to the sell-side for the third quarter, but it also said that strength has continued on into the fourth quarter.
I was bullish before on Dialog, and I’m still bullish after this little run-up in the shares. I believe the Street continues to undervalue the company’s sub-PMIC content opportunities with Apple’s (NASDAQ:AAPL) iPhones, as well as opportunities in areas like battery management and charging. Longer-term opportunities in IoT are definitely more “show me” stories, as is the possibility of the company using partnerships with Xilinx (NASDAQ:XLNX) and Renesas (OTCPK:RNECY) to leverage its power management capabilities into auto market segments like ADAS and infotainment. With the shares offering attractive upside on the sub-PMIC business and heavily discounted long-term estimates of IoT and auto sales, I believe these shares are attractive.
The reported liquidity on Dialog ADRs is not good, but more and more brokers have made trading in European markets easy and relatively cost-effective.
A Better Third Quarter…
While a lot of analysts have been expecting stronger results from chip companies leveraged to markets like autos, data center, and 5G, there hasn’t been that much bullishness on consumer electronics. That may be an oversight, or at least for companies with meaningful content leverage, as shown in Dialog’s third-quarter update.
Management announced that it now sees third-quarter revenue at $386 million – above the high end of the prior guidance range ($340M-$380M) and more than 6% above the average sell-side estimate. Dialog’s management attributed the strength to healthy ongoing demand for tablets, notebooks, and wearables tied to the work-from-home and “play-from-home” trend that has continued into the second half of the year. Within that, the company has seen stronger-than-expected demand for PMICs, Bluetooth Low Energy chips and modules, and mixed-signal chips used in chargers.
…And A Better Fourth Quarter On The Way?
Dialog didn’t offer new guidance for the fourth quarter, but did say that the strength it saw in the third quarter was continuing into the fourth quarter. I’d note that in addition to the potential continuation of work-from-home trends, Dialog could benefit from the upcoming launch of new console gaming systems and new iPhones.
On that latter subject, I think it’s worth paying attention to next week’s (October 13) Apple event, which is widely expected to include the introduction/launch of new iPhone models. I expect Dialog to see more sub-PMIC opportunities here. As Apple continues to add features, the power management demands become increasingly complex, and specialized sub-PMICs are an efficient and cost-effective way of managing these complex demands and preserving/extending battery life.
IoT And Auto Will Be A Longer-Developing Story
Winning more sub-PMIC slots with the iPhone would be a solid positive development for Dialog, but it won’t change one of the fundamental concerns about this company – that it is too reliant upon Apple for its revenue. Indeed, the company had to go through a challenging transition that involved transferring its main PMIC business to Apple and created substantial volatility in the share price. While the stock price has recovered, investors are still nervous about this dependency on Apple for more than half of revenue.
Management isn’t really trying to build a sub-PMIC business with other phone OEMs and has instead pivoted to opportunities like IoT, charging, and battery management. I believe Dialog will see some lift from fast-charging chips for Android phones and power/charging in PlayStation 5. The IoT opportunity is looking stronger now with improved connectivity and embedded memory capabilities, and I expect to see this opportunity start to develop more meaningfully in 2021 and 2022.
Beyond that is the opportunity to bring the company’s power management capabilities to auto applications like ADAS and infotainment; I like Dialog’s partnerships with Xilinx and Renesas, but this is more of “could happen” than “will happen” at this point. The arguments for enhanced power management in these systems are sound, but given Dialog’s past issues in diversifying the business, I think it’s better to be cautious/conservative.
I haven’t made big changes to my model, as I think it’s premature to make meaningful changes to 2021 and beyond just on the basis of a couple of strong quarters. If Dialog has in fact won more sub-PMIC business than I expect with the next generation of iPhones that could be a potentially more significant driver of new numbers. As is, my modeling assumptions for Dialog lead to a long-term revenue growth rate of less than 3%, with adjusted FCF margins eventually getting back into the mid-teens. Should the company find more success in IoT and/or auto, there could certainly be further upside to those numbers.
The Bottom Line
Dialog looks undervalued on both discounted cash flow and margin-driven EV/revenue. That the shares look undervalued on DCF certainly does highlight that this is far from a favored name at a time when many semiconductor stocks are trading at generous (if not excessive) valuations. Likewise with the revenue multiple; while Dialog’s margins aren’t fantastic, the company doesn’t get the sort of multiple for them that most other chip companies would. All in all, I think these shares remain undervalued and worth a more serious look.
Disclosure: I/we have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.