Is There Anything To Love In Analog Devices, Inc. (ADI)?
A lot has been said and written about increasing competition for Analog Devices, Inc. (NASDAQ:ADI) in the analog market. Whenever competition for Analog is discussed, these names quickly come to mind: Texas Instruments Incorporated (NASDAQ:TXN), Linear Technology Corporation (NASDAQ:LLTC) and Maxim Integrated Products Inc. (NASDAQ:MXIM).
Texas Instruments is particularly singled out as the real threat to Analog because of its rising share of the high-performance analog market. Does it look like Texas Instruments is going to bring Analog to its knees because of its leading share in most of the analog product categories?
It is a valid concern to think about rising competition for Analog, especially with names such as Texas Instruments being cited. However, a closer look at Analog reveals a completely different picture, which is also inspiring.
Analog Devices overview
Analog Devices, Inc. (NASDAQ:ADI) is the second-largest analog chips producer behind Texas Instruments. The company’s products are highly differentiated and enjoy dominant market position in their categories.
Analog Devices operates in four end markets, namely, Industrial, Automobile, Consumer and Communications. In fiscal year 2014, Analog Devices generated $2.9 billion of revenue, most of it coming from the Industrial segment at 47%. Communications, Automobile and Consumer segments accounted for 24%, 18%, and 11% of revenue in 2014, respectively. Only the Consumer segment sales didn’t improve in that year.
Analog’s products are widely used in the emerging connected vehicle market. The drive for greater fuel efficiency is also boosting demand for Analog Devices’ chips.
To bolster its competitive edge, Analog invests a lot in product development, seeks and acquires strategic assets and expands its factory capacity. The company tapped Hittite Microwave to complement its existing products, and there is room for more benefits from the integration of Hittite.
Positives for Analog Devices
Hittite Microwave acquisition and synergies
The acquisition of Hittite Microwave is one obvious value proposition for Analog. The company paid $2 billion to bring Hittite under its wing and the transaction closed in the third quarter of 2014. Currently, Analog continues with the integration of Hittite into its portfolio.
Hittite produces a wide range of subsystems, integrated circuits and modules used for millimeter wave and microwave applications. These chips are deployed in cellular, medical imaging, military and satellite communications electronics. On the other hand, Analog makes signal-processing devices used in industrial products, automobiles and consumer electronics.
From above, it comes out clearly that Hittite’s and Analog’s products complement each other. Adding Hittite’s chips to Analog will both supplement and complement the latter’s existing product mix. Such an arrangement would enable Analog to offer comprehensive solutions to its customers.
Tapping into Hittite’s research prowess would likely bolster Analog’s product development efforts. There are also opportunities for Analog to drive more cost advantages after it completes the integration of Hittite into its system.
More growth catalysts
It is easy to see that Analog Devices, Inc. (NASDAQ:ADI) has its best times ahead by looking at the vast opportunities for the company in Industrial and Automobile and other sectors. Industrial and Automotive are two important end-market segments for Analog. The company’s highly-differentiated products are its other competitive advantage in the Industrial and Automobile sectors.
Electronics in automobiles: In the Automotive segment, demand for electronic components is on the rise. The reasons for this include government mandated upgrades in areas like automotive fuel efficiency and safety.
There has been a wide adoption of Analog’s fuel efficiency technology that is compatible with CAFÉ standards in the European auto industry. The adoption of the technology is also in a positive trend in the U.S.
Analog Devices announced that Ford Motor Company (NYSE:F) will be able to deploy its fuel efficiency technology in 70% of its production cars for the U.S. market by 2017.
There is also potential for Analog to leverage Hittite’s millimeter-wave technology in Automotive, expanding its revenue opportunity in the segment.
Healthy industrial business: The combination of improving macroeconomics and positive sentiments about the economy are promoting higher capital spending. The trend is particularly strong in the industrial segment where Analog Devices enjoys a strong position in amplifier and converter categories.
The Industrial segment is characterized by slow but steady growth and the margins are also impressive. The management of Analog is optimistic about continued growth in Industrial in the near-term. The combination of strong demand and continued investment in new industrial products should lead to more gains for Analog Devices in the segment.
In the Communications market, Analog stands to benefit from a network update, amid demand for more infrastructure capacity. U.S. carriers like AT&T Inc (NYSE:T) are moving to digital signals, a trend that is bound to drive demand for Analog Devices’ signal converters.
Chinese authorities have set out elaborate network upgrade targets. Telecom carriers in the country are expected to increase their investment on network development and upgrades to comply with the requirements. Analog stands to benefit from the trend because of its superior technology and a wide range of telecom products that allow it to offer comprehensive solutions.
Exposure to Apple:
Teardowns of Apple Inc. (NASDAQ:AAPL)’s Apple Watch reveal that the company used Analog Devices, Inc. (NASDAQ:ADI)’s chips in the Force Touch controller of the wearable. There are widespread speculations that Apple intends to include the Force Touch feature in the next iPhone, thought to be called iPhone 6S. If Apple does bring Force Touch to the iPhone, there is a fair chance that Analog will win that socket.
Analog’s win of more sockets in Apple’s new products would definitely lead to surprise top-line and bottom-line gains. Additionally, more wins from Apple would also expand Analog’s share in the mobile and consumer electronics market.
Exposure to Apple also raises the profile of Analog and can enable the company to win sockets elsewhere in the consumer electronics space.
Areas of concern
Analog has been trying to expand its capacity to enable it to capture a larger market share and remain more competitive. The company has a substantial portion of its production in-house. There is risk in this arrangement. Expanding capacity too quickly could lead to oversupply thus resulting in lower prices and squeeze on margins. Internal production also exposes the company to fixed costs, which can be a serious burden when demand is weak.
Pressure in high-margin segment:
Analog specializes in highly differentiated products that fetch high gross margins. However, growth potential in the company’s 70% margin segment is very limited. If Analog decides to promote the expansion of the total available market, there is the risk of eroding margins. As such, either way things look tough for Analog, but a breakthrough is certainly not impossible.
Balance sheet status
Looking back over the past few years shows that Analog’s cash generation has been strong. The company reported cash and marketable securities of $3.07 billion at the end of the latest quarter. That was an increase of 7% over the previous quarter.
Analog initiated dividends in 2003 and has never looked back. Instead, dividend payouts have not only been consistent but also improving. Out of the $344 million cash from operation generated in the most recent quarter, Analog returned $124.9 million to shareholders in the form of dividends. The company also returned $24.3 million to shareholders through share repurchases and $49.2 million went to capital expenditures.
The management of Analog Devices, Inc. (NASDAQ:ADI) gave a positive picture of Hittite’s integration. Exposure to Apple combined with Analog’s superior technology and synergies from the Hittite acquisition present Analog as an attractive investment.
Disclaimer: The opinions and data expressed herein by the author are not an investment recommendation and are not meant to be relied upon in investment decisions. The author is not acting in an investment advisory capacity, nor is this an investment research report. The author’s opinions expressed herein address only select aspects of potential investment in securities of the company or companies mentioned and cannot be a substitute for comprehensive investment analysis. Any analysis presented herein is illustrative in nature, limited in scope, based on an incomplete set of information, and has limitations to its accuracy. The author recommends that potential and existing investors conduct thorough investment research of their own, including detailed review of the companies’ SEC filings, and consult a qualified investment advisor. The information upon which this material is based was obtained from sources believed to be reliable, but has not been independently verified. Therefore, the author cannot guarantee its accuracy. Any opinions or estimates constitute the author’s best judgment as of the date of publication, and are subject to change without notice.
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