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3 Top Internet of Things Stocks

By Markets Fool.com

The Internet of Things (IoT) market, which connects various objects to each other and the cloud, is often cited as the "next big thing" for the tech sector. The number of connected devices worldwide willsoar from 15 billion in 2015 to 200 billion by 2020.

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However, the market is massive and investors might not know where to start. I believe that as a primer, investors should take a closer look at three top stocks in the IoT market -- Sierra Wireless (NASDAQ: SWIR), Cypress Semiconductor (NASDAQ: CY), and Qualcomm (NASDAQ: QCOM).

Image source: Getty Images.

Sierra Wireless

Sierra Wireless is frequently mentioned as a "pure play" on the IoT market. That's because it's the world's leading manufacturer of 2G, 3G, and 4G embedded modules and gateways, which link objects to the cloud and each other.

Sierra faces tough competition from cheaper Chinese rivals, but it's been bulking up by acquiring smaller wireless connectivity companies likeMaingate, Mobiquithings, and GenXMobile. By scaling up, Sierra's gross margins have been expanding, although its top line growth remains weighed down by slower enterprise spending and macro headwinds in certain markets.

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Those pressures caused Sierra's year-over-year revenue growth to fall from the double-digits to the single-digits last year. Its revenue growth turned negative over the past two quarters, but the company expects sales growth to turn positive again during the current quarter.

Analysts expect Sierra's revenue to rise 1% this year and 5% next year on growing demand for IoT modules. Its non-GAAP earnings are expected to fall 28% this year, but possibly rebound 35% next year on stronger sales and improving margins. Sierra is a speculative stock, but its low P/S ratio of 0.8 and its enterprise value of $300 million make it a compelling contrarian play.

Cypress Semiconductor

Cypress sells programmable chips, memory, and other solutions for automotive, industrial, and networking purposes. It boosted its presence in specialized memory chips last year by merging with Spansion in a $5 billion deal. It then became a major player in the IoT market by buying Broadcom's (NASDAQ: AVGO) IoT business for$550 million earlier this year.

That purchase added Broadcom's Wi-Fi, Bluetooth, and Zigbee IoT product lines, its WICED brand and developer community, and all related intellectual property to Cypress' portfolio. Prior to that purchase, Cypress' main presence in the IoT market consisted of ultra-low power programmable SoCs, which were paired with generic radios.However, Cypress CEO T.J. Rodgers declared that pairing those SoCs with Broadcom's IoT devices could turn the company "into a force in IoT" by creating an "easy-to-use programmable embedded system solution" for its 30,000 customers worldwide.

Cypress has a strong record of double and triple-digit sales growth. Analysts expect itsrevenue to rise 18% this year and 10% next year. Its non-GAAP earnings, buoyed by job cuts and other cost-cutting measures announced in early October, are expected to rise 128% this year and 48% next year.

Cypress currently trades at 1.8 times sales with an enterprise value of $4.25 billion. In late August, reports indicated that TPG Capital was interested in acquiring Cypress at$15 per share, and the chipmaker is frequently cited as a possible takeover candidate in the ongoing consolidation of the semiconductor market.

Qualcomm

Qualcomm, the biggest mobile chipmaker in the world, will soon become the top automotive chipmaker in the world after its acquisition of NXP Semiconductors (NASDAQ: NXPI) closes. That acquisition will complement its acquisition of IoT and automotive chipmakers CSR last year, as well as its new Snapdragon chips for drones, wearables, connected vehicles, and other IoT devices.

Image source: Qualcomm.

Most of Qualcomm's revenue still comes from its mobile SoCs (system on chips). But that could soon change as the chipmaker aggressively expands into adjacent markets across the IoT. The development of new IoT technologies will also strengthen its licensing business, which generates most of the company's profits by charging licensing fees for 3G/4G devices.

Qualcomm doesn't regularly disclose how much revenue comes from its IoT business, but thatfigure topped $1 billion in 2014. With the subsequent acquisitions, investments, and development of new chips, that figure should be considerably higher today. It also leads the AllSeen Alliance, a consortium of companies that use its open source AllJoyn framework to enable IoT devices to communicate with each other.

The bottom line

Sierra, Cypress, and Qualcomm all represent different ways to invest in the IoT market. Sierra will give you the most direct exposure, but it's also the riskiest. Cypress gives you more moderate exposure with its well-diversified portfolio of chips, while Qualcomm's core chipmaking and licensing businesses arguably make it the lowest risk play.

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Leo Sun owns shares of Qualcomm. The Motley Fool owns shares of and recommends NXP Semiconductors, Qualcomm, and Sierra Wireless. The Motley Fool recommends Broadcom and Cypress Semiconductor. Try any of our Foolish newsletter services free for 30 days. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy.