The world becomes more connected every day. The Internet of Things (IoT) -- the infrastructure linking the billions of connected devices to one another and the cloud -- represents a huge growth opportunity for tech companies. There could be 20.4 billion connected devices by 2020, according to Gartner. Research firm IDC estimates that worldwide spending on the IoT could increase to $1.4 trillion by 2021, up from about $800 billion in 2017.
Two companies that could benefit from this huge growth trend are Skyworks Solutions (NASDAQ: SWKS) and Infinera (NASDAQ: INFN). In the company's fourth-quarter conference call, transcribed by S&P Global Market Intelligence, Skyworks CEO Liam Griffin could hardly contain his excitement as he talked about the rapid expansion the connected economy could experience in the coming years:
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Let's take a closer look at each of these two companies, examining what they do, how they are growing and valued, and what their prospects look like, to determine which represents a better potential investment.
A close look at Skyworks
Skyworks Solutions designs and manufactures radio frequency (RF) chips for a number of different devices from smartphones and smartwatches to automobiles and refrigerators. In today's connected world, there is virtually no appliance or device that can't be connected. These chips, the company says, allow devices to connect to "a broad set of wireless protocols including cellular LTE, Wi-Fi, Bluetooth, LoRa, Thread, and Zigbee." The steadily rising number of connected devices and the coming shift to 5G should provide huge tailwinds for Skyworks for years to come.
In the company's fourth quarter, Skyworks delivered record numbers: Revenues grew to $984.6 million, an 18% increase year over year, and net income rose to $281.3 million, a 14% increase year over year. The company is guiding for revenue to be up to $1.05 billion and non-GAAP earnings per share (EPS) to come in at $1.91. What makes Skyworks particularly compelling right now is its relatively attractive valuation. Based on the company's full fiscal year adjusted EPS of $6.45, the stock is trading at a price-to-earnings ratio of about 16 as of the time of writing. Skyworks's balance sheet is pristine: It ended 2017 with about $1.6 billion in cash and no debt. The company also pays a rising dividend and allocated $432 million to share buybacks last year.
The biggest risk facing Skyworks is its customer concentration. While its IoT sales are growing, a disproportionate amount of its revenue still comes from large smartphone manufacturers including Apple Inc (NASDAQ: AAPL), Samsung, and Huawei. In the company's fourth-quarter conference call, CFO Kris Sennesael said, in terms of percentage of total revenue, sales to Apple are "in the high 30s," Samsung is in the "low teens," and Huawei is about 10%. If any of these smartphone makers ever took their production of RF chips in-house or looked to another supplier, it would represent a significant hit to Skyworks's top and bottom lines.
A close look at Infinera
The company's annual 10-K filing states that Infinera "provides optical transport networking equipment, software, and services" to telecoms, internet content providers, and cable providers. Essentially, Infinera allows carriers to boost their capacity over long- and short-distance networks without installing more optical fiber. As the use of high-speed internet and mobile networks increase, these types of products should be in high demand. In the company's second-quarter conference call, CEO Thomas Fallon confirmed the robust long-term demand for his company's products and services:
Unfortunately, Infinera has had a hard time translating the world's insatiable appetite for more data into profits. In the company's third quarter, revenue did creep up 3.6% to $192.6 million, but the company could not turn a profit. The company's diluted EPS was a loss of $0.25, compared to last year's third-quarter losses of just $0.08. Because the company did not turn a profit in 2017, Infinera's stock does not sport a price-to-earnings ratio, but its price-to-sales ratio is just about 1.5.
One of the biggest problems for Infinera is the intense competition it faces from others in the space, such as Ciena. This competition has created what Fallon described as "difficult pricing conditions" in the company's second-quarter conference call. None of this is helped by the "relatively weak" spending by major telecom companies and cable providers, two of Infinera's biggest class of customers. In the company's third-quarter earnings release, Infinera also announced a cost-cutting program implemented to return the company to profitability as soon as possible, hopefully by the second half of 2018.
The final verdict
If pricing pressure lessens and if the spending cycle of networks and internet service providers improves, it might then be possible to make a bull case for Infinera. But those are a lot of "ifs."
Skyworks represents a better investment opportunity by nearly every metric that matters: value, revenue and earnings growth, and future opportunities. Skyworks is already showing it can grow with the IoT as its tailwind, and the coming shift to 5G should provide it another major boost to the company's revenue. The company is immensely profitable, with fattening operating margins and double-digit revenue and earnings growth. Kick in a shareholder-friendly management that is committed to responsibly buying back shares and raising its dividend, and I believe shareholders have a market-beating investment for years to come.
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Matthew Cochrane owns shares of Skyworks Solutions. The Motley Fool owns shares of and recommends Apple, Infinera, and Skyworks Solutions. The Motley Fool has the following options: long January 2020 $150 calls on Apple, short January 2020 $155 calls on Apple, and short January 2018 $105 calls on Skyworks Solutions. The Motley Fool has a disclosure policy.