Why SKWS is a smart long-term 5G value but big short-term risk

Ongoing trade uncertainty has continued to contribute to a high degree of volatility in the market. With both sides only seeming to be intent on ramping up their own respective rhetoric, it seems unlikely that any kind of resolution is unlikely to be found in the near term. I expect that to translate to ongoing volatility in the market in general. That means that pressure on stock prices is likely to limit how much upside the stock market could offer while downside risk continues to increase.

If your preference is to focus on short-term strategies, the best probabilities are likely to be found on the bearish side; but that also means that for patient value-oriented investors, there is likely to be an increasing number of interesting stocks to pay attention to. Among the most interesting industries, in my opinion is semiconductors. Prices have been under pressure for more than year, driven not only by U.S.-China trade tensions but also ongoing indications that supply for memory products, which has long been a key driver for industry grown remains high. The smartphone market, which is one of the biggest ongoing sources for semiconductor revenues, is a maturing market, which has led many analysts to predict flat to lower demand for memory moving forward.

While this is an element that is likely to act as a headwind for the industry, I think that there is a an interesting for stocks that are positioned to take advantage of where most experts predict the next stage of growth in the industry is likely to come. That is in 5G communication, where the companies that are investing heavily in the technology to enable the next generation of mobile, wireless connectivity. Skyworks Solutions Inc. (SWKS) has seen a lot of volatility this year; it increased more than 54% from January to April as the market used the expectation of a trade deal to push to a new all-time high; but since that point, the stock has retreated back by about 25% as trade pressures re-emerged. The 5G opportunity for SWKS comes from the company’s efforts to expand their customer base beyond Apple smartphones. More than 30 5G-enabled smartphones are anticipated to come to market in 2019; the availability of broadband-level wireless Internet connectivity is expected to the biggest driver of smartphone demand for the foreseeable future. Does that mean that the current bearish pressure on the stock is creating a useful opportunity? Let’s look.

Fundamental and Value Profile

Skyworks Solutions Inc. designs, develops, manufactures and markets semiconductor products, including intellectual property. The Company’s analog semiconductors are connecting people, places, and things, spanning a number of new and unimagined applications within the automotive, broadband, cellular infrastructure, connected home, industrial, medical, military, smartphone, tablet and wearable markets. Its geographical segments include the United States, Other Americas, China, Taiwan, South Korea, Other Asia-Pacific, Europe, Middle East and Africa. It operates throughout the world with engineering, manufacturing, sales and service facilities throughout Asia, Europe and North America. It is engaged with key original equipment manufacturers (OEM), smartphone providers and baseband reference design partners. Its product portfolio consists of various solutions, including amplifiers, attenuators, detectors, diodes, filters, front-end modules, hybrid, mixers, switches, and modulators. SWKS has a current market cap of $12.1 billion.

Earnings and Sales Growth: Over the last twelve months, earnings and sales both decreased, with earnings declining -10% while sales dropped a little over -11%. These numbers deteriorated in the last quarter, with earnings dropping more than -21% and sales about -16.5%. Despite the bearish earnings pattern, the company operates with an impressive margin profile, with Net Income running at 29% of Revenues over the last twelve months and 26% in the most recent quarter.

Free Cash Flow: SWKS has healthy free cash flow of about $670 million over the last twelve months. It is true that this number has declined since the beginning of 2018, but it is still mostly healthy and equates to a Free Cash Flow Yield of 5.55%.

Debt to Equity: SWKS has had zero debt on its balance sheets since the beginning of 2015, which means that all of its operating profits can be used to fund research and development, expand its offerings, and bolster its cash and liquid assets. As of the last quarter, the company had more than $950 million in cash.

Dividend: SWKS pays an annual dividend of $1.52 per share, which at its current price translates to a dividend yield of 2.16%.

Price/Book Ratio: there are a lot of ways to measure how much a stock should be worth; but one of the simplest methods that I like uses the stock’s Book Value, which for SWKS is $23.63 per share. At the stock’s current price, that translates to a Price/Book Ratio of 2.97. The historical average for SWKS is 4.22, which means that SWKS is significantly under-valued – by about 42% – at current price levels. The stock’s Price/Cash Flow ratio offers an even more optimistic perspective since it is current trading more than 63.4% below its historical average. Those numbers but the stock’s long-term target price between $97 and $115 per share.

Technical Profile

Here’s a look at the stock’s latest technical chart.

Current Price Action/Trends and Pivots: The chart above is a good representation of the stock’s decline over the past two years. The stock’s rally in the first four months of the year saw the stock push near to the 61.8% retracement line before it dropped back. The stock does appear to to approaching support from previous pivots around $68, but it is also true that the the stock’s current strong bearish momentum appears set to push the stock near to its multi-year low at around $60. Any kind of near-term bullish view is really quite speculative right now, unless the stock pushes above the 382.% retracement line around $82.25.

Near-term Keys: There is really no basis for any kind of bullish short-term trade, but a break below $68 would be a strong signal to short the stock or buy put options with a near-term target at around $60 per share. The stock would need to break above $82.25 before any kind of near-term bullish signal could be seen, which seem quite unlikely under current circumstances. The stock’s current price does offer a compelling value-based proposition; but taking a long-term position under current market conditions means being willing to accept a high level of likely, continued price volatility for as long as trade pressures and fears persist. A smarter approach may be to wait to see the stock find a new consolidation level before taking on any new long-term position in the stock.