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This is Not a Test…It’s a Buy
12/09/2011 7:30 am EST
This small company is a big player in the semiconductor test market, explains Marc Gerstein of the Forbes Low-Priced Stock Report.
One of the easiest megatrends to observe is the incredible spread of technology—more devices, more tolerance to harsh conditions, more power, more features, and much smaller “footprints.”
Each such development is accomplished through use of semiconductors, which have to adapt in ways that enable the end products to evolve as delineated above. And the greater the burden placed on semiconductors, the greater the need for testing, a process that now comprises a large portion of the total cost of semiconductor manufacture.
InTEST (INTT), although tiny by stock market standards, is actually a significant player in the manufacture of semiconductor test equipment, with market shares for its products ranging from 15% to 30%, and regular sales to such industry giants as Texas Instruments (TXN), Teradyne (TER), Cyprus Semiconductor (CYY), and Analog Devices (ADI).
Undoubtedly, we’re dealing here with a company whose products are vital to the modern world. That’s the good news.
The bad news, so to speak, is that advancing technology is so ubiquitous, it has become quite cyclical. With semiconductors, even advanced semiconductors, used in just about everything nowadays, it’s hard for the industry not to feel pain when any sort of manufacturing activity softens.
What’s more, cycles here tend to be especially brutal. With memories of technology as an exotic growth area immune to mundane economic concerns still fresh in so much of our collective memory (however obsolete that image may now be), there always seem to be many suppliers coming out of the woodwork to cater to every instance of demand. That adds extra oomph to semiconductor down cycles.
INTT has felt that in spades. Due to a slump in demand, coupled with long-term pricing pressure, revenues fell from $62 million in 2006 to $23 million by 2009. Still, one case for the stock is the nature of the semiconductor cycle—things rise just as vigorously as they fall.
Revenue snapped back to $46 million in 2010. Business has been flattening out in the second half of 2011, but generally speaking, the long-term trend is most likely to be significantly upward. So with a trailing 12-month P/E below three (low enough to already presume some softening ahead), INTT could arguably be a cyclical trade, similar to the profitable one we enjoyed in this stock about a year ago.
But is the timing optimal? A year ago, revenues were rising. At present, we’re looking at potential softening.
But the stock is actually a bit lower than where we entered last November. Meanwhile, the company is looking structurally stronger.
For one thing, this debt-free firm’s ability to lower its breakeven point is impressive. Back in 2006, when revenues were $62 million, gross margin was 42.2% and operating margin was 5.7%. In the trailing 12 months, with revenues at $47 million (which would typically imply a tougher challenge covering fixed costs), those margins came in at 47.2% and 15%, respectively!
Also, the company is diversifying beyond semiconductors and into test equipment used in such other areas as aerospace, defense, automotive, telecom, and medical-pharmaceutical. Non-semiconductor business accounted for 18% of bookings at the start of 2011, but rose to 41% by the third quarter.
This still does not refute the possibility of a better entry point for the stock down the road. But then again, with the P/E as low as it now is, and with the company evolving into something that may be of interest for reasons beyond a quick semiconductor trade, it would seem that downside risk is more limited and temporary than at equivalent points in the past. Besides, ownership of any stock nowadays involves considerable cyclical risk.
Given the secular enhancement to this investment case, InTEST is a buy.
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