ON Semiconductor (ON) Q4 Earnings Beat, Guidance Disappoints

ON Semiconductor Corporation ON reported fourth-quarter 2017 non-GAAP earnings of 39 cents per share, which beat the Zacks Consensus Estimate by 2 cents. Earnings increased 34% year over year but decreased 11% sequentially.

The company reported non-GAAP revenues of $1.37 billion, which increased 9% year over year but declined 1% from the previous quarter. Revenues beat the Zacks Consensus Estimate of $1.35 billion. The figure was almost in line with the upper end of the guided range of $1.33-$1.38 billion.

The year-over-year growth was driven by strong demand, adoption and favorable product mix of the company’s diversified product portfolio for automotive and industrial end-markets.

Shares of ON Semi have gained 62.2% in the past year, significantly outperforming the industry’s 18.8% rally.

However, shares declined 4.4% after the announcement of the results due to unimpressive guidance.

Revenue Details

ON Semi has three business units namely – Power Solutions Group or PSG (revenues of $698 million), Analog Solutions (revenues of $487 million) and Image Sensor Group (revenues of $192 million).

Automotive (32% of revenues) end-market revenues were approximately $437 million, up 18% year over year and 6% quarter over quarter. In the quarter, the company’s CMOS image sensors, ADAS, power management products, wireless charging, mixed signal ASICs and sensor interface products witnessed strong demand.

Industrial (26%) end-market revenues increased 17% year over year and 1% sequentially to $357.5 million. The company broke a record in the shipment of its Python line of products. Additionally, to access a wider range of the industrial markets, the company is in the process of launching a new platform of products.

Demand in industrial end-markets was driven by power modules, machine vision as well as favorable macroeconomic conditions. The addition of Fairchild’s offerings to its product portfolio has made it further lucrative. Management expects the recently enacted tax regulations to increase industrial capital expenditure, further increasing demand.

Communications (19%) end-market revenues fell 4% year over year and 6% sequentially to $268.5 million. The decline was mainly due to a slowdown in certain geographies, which was offset by the company’s penetration in key global markets.

However, new platforms and increased adoption of the company’s content on major platforms offset the negative impact of the exit. Management is optimistic about the acceptance of USB Type-C solutions in the smart-phone market.

Computing (10%) grew 6% year over year but declined 8% quarter over quarter to $138.8 million, pertaining to the impressive performance of client and server solutions segments. Consumer (13%) end-market revenues grew 1% on a year-over-year basis and declined approximately 8% sequentially to $175.4 million.

ON Semiconductor Corporation Price, Consensus and EPS Surprise

ON Semiconductor Corporation Price, Consensus and EPS Surprise | ON Semiconductor Corporation Quote

Operating Details

Non-GAAP gross margin was 37.3%, down 40 basis points (bps) sequentially but up 680 bps on a year-over-year basis backed by revenue growth and improved operational efficiency. A favorable product mix also boosted margins. Management expects margin rich automotive end-market as well as ongoing divestiture of non-core business to drive margins moving forward.

Non-GAAP operating margin was 12.05%, reflecting a sequential decline of 70 bps but a year-over-year increase of 763 bps.

Balance Sheet

Cash & cash equivalents were $949.2 million, up from $901.2 in the previous quarter.

In the fourth quarter, operating cash flow was $224.3 million compared with $328.2 million in the previous quarter. Free cash flow was $48.6 million, down from $179.5 million in the previous quarter.

Guidance

For the first quarter of 2018, automotive revenues are expected to increase sequentially backed by the ramp up of IGBTs for electric vehicle traction motors in China.

Revenues from Industrial and Computing are expected to stay flat sequentially, while Consumer and Communications end markets are however expected to go down sequentially due to seasonality.

In the first quarter of 2018, the company plans to make use of its available free cash flow to pay maturing debt of $129 million. Management also expects to see strong growth in revenue contribution from Fairchild in the near term. The company targets annual synergy rate of $240 million from the acquisition by the end of 2019.

Management expects margin expansion as well as free cash flow growth in 2018 driven by synergies from Fairchild and favorable product mix improvement driven by expansion in automotive and industrial business.

ON Semi now forecasts revenues to be in the range of $1.34–$1.39 billion in first-quarter 2018, given its booking trends and backlog level.  Non-GAAP gross margin is projected to be in the range of approximately 36.4%–38.4%, while non-GAAP operating expenses are expected in the range of $290–$304 million.

Conclusion

ON Semi is benefiting from a diversified customer base as none of the end markets generate more than 5% of the revenues, thus lowering the risk of customer concentration.

Divestiture of non-core and underperforming business segments are also proving to be beneficial for the company’s margins. The company anticipates consistent growth backed by high-margin products meant for the automotive and industrial end markets. Additionally, per management, past investments in the automotive, industrial and communications end markets are also reaping benefits.

Moreover, integration and optimization of Fairchild’s manufacturing operations is anticipated to further boost the company’s profitability. The company is already enjoying cross-selling opportunities to a combined customer base that is aiding its top line and we believe this will help in improving its performance going forward.

Zacks Rank and Stocks to Consider

ON Semi carries a Zacks Rank #3 (Hold)

Some better-ranked stocks in the broader technology sector are Micron Technology, Inc. MU, Lam Research Corporation LRCX and The Trade Desk Inc. TTD, all carrying a Zacks Rank #1 (Strong Buy). You can see the complete list of today’s Zacks #1 Rank stocks here.

Micron, Lam Research and The Trade Desk have a long-term expected earnings growth rate of 10%, 14.85% and 25%, respectively.

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