The number of devices connected to the internet is on the rise, and the stakes are higher than ever for chipmakers that enable connectivity. Two semiconductor outfits have emerged as leaders in the space: Cypress Semiconductor and ON Semiconductor.
The competition between the two companies increased even more during the first quarter of 2019 when ON moved to acquire small WiFi chip designer Quantenna (NASDAQ: QTNA), and Cypress had something to say about it. Should investors choose one stock over the other?
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High growth for a select few
ON is shelling out $1.07 billion for Quantenna, a hefty price tag for a company that had revenue and adjusted net profit of just $220 million and $20.4 million, respectively, in 2018. Demand for Quantenna's WiFi solutions is on the rise, though. During the first quarter of 2019, revenues increased 28% year over year, to $57.7 million, and adjusted net income was $6.2 million.
Nevertheless, ON's takeover price values Quantenna at a whopping 182 times trailing-12-month earnings. The high growth rate is part of the rationale, and Quantenna's addressable market is expected to increase to $4.3 billion by 2022, compared to just $2 billion last year. ON thinks it can capture more share of the whole pie with Quantenna plugged into its distributor network.
ON also made the purchase to one-up Cypress Semiconductor. Alluding to this, however, Cypress CEO Hassane El-Khoury had this to say about the Quantenna news during his company's first quarter 2019 conference call:
Put simply, Cypress thinks it has a head start in the battle for WiFi chip supremacy and isn't worried about ON encroaching on its territory.
Which company's in better shape?
Both ON and Cypress have transformed their operations the last few years, going from simple sellers of commoditized product to specialists in connectivity and power management. In 2018, Cypress' sales grew 7%, while ON increased 6%.
At least as far as the numbers are concerned, the companies are in similar shape. Cypress holds a narrow lead in gross profit margins on product sold, but ON currently holds the lead on operating profit. Thus, the two companies are comparable to each other as far as product sales are concerned.
One advantage Cypress stock has is its annual dividend yield of 2.6%, while ON doesn't pay one. However, ON could get another bump in profit margins going forward as Quantenna boasted a 51.2% gross profit in the first quarter. If that figure holds as Quantenna grows in the years to come, that could help ON increase its advantage going forward. Otherwise, these two companies are in similar shape at this point in time, and both are expected to continue growing in the years ahead as connectivity demand rises.
It's hard to say who'll win the battle, but investors who want in on the trend should consider betting on both horses as this won't be a zero-sum game.
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Nicholas Rossolillo has no position in any of the stocks mentioned. The Motley Fool owns shares of Quantenna Communications. The Motley Fool recommends Cypress Semiconductor. The Motley Fool has a disclosure policy.