The Ratings Game: Chip stocks rally as Texas Instruments provides first look into coronavirus impact on sector

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Chip-related stocks rallied Wednesday after Texas Instruments Inc. gave investors a sneak peek into earnings for the broader sector, namely, that chip sales for PCs and servers will be strong while automotive chips and those for industrial uses will be weak while the COVID-19 pandemic plays out.

Late Tuesday, Texas Instruments US:TXN reported earnings that topped Wall Street estimates and used the 2008 financial crisis as a playbook for formulating its outlook for the second quarter.

Susquehanna Financial analyst Christopher Rolland, who has a positive rating and a $135 price target on Texas Instruments, said the chip maker is playing the “long game” by building up its inventory without a lot of clarity on how the COVID-19 pandemic will play out in the chip sector.

“Texas Instruments offered investors a (somewhat) controversial game plan likely to feed both the bulls and the bears,” Rolland said. “The bears are likely to focus on the continued and expected market deterioration for most end markets over the next few quarters and TI’s strategy to concurrently build inventories and keep utilizations elevated throughout the downturn.”

“While this aggressive strategy can backfire for many sub-scale semis, particularly those with stretched balance sheets, TI has successfully leaned on this approach through prior downturns, only to benefit from them during the upcycle,” Rolland said. “Indeed, in 2008 TI built inventories and decreased product lead times in order to support customers during the cash crunch, only to gain analog market share and customer loyalty after the downturn.”

Leading up to earnings season, channel checks and data on PC shipments have shown that the COVID-19 pandemic has ramped up sales of chips that cater to millions of people who suddenly found themselves not only working from home, but entertaining themselves there, that means higher demand for PCs and the servers that power data centers.

Jefferies analyst Mark Lipacis, who has a buy rating and a $136 price target on Texas Instruments, said the company “simultaneously lowered the bar, and positioned itself to gain share.”

“Management called the channel ‘clean,’ consistent with our channel checks,” Lipacis said. “We’ve argued that a lean supply chain heading into the COVID-19 pandemic will translate to better than expected orders for semis during the pandemic, and we expect a sharp snapback once the virus is contained.”

“We think TXN did two things that investors wanted to see,” Lipacis said. “First, it lowered the bar, guiding revenues down 12% QQ. Secondly, it managed the expectation that it would build inventories to maintain service levels and be prepared for a snap-back in orders, effectively positioning it to respond quickly and gain share should demand suddenly snap-back like it did post the financial crisis.”

Mizuho analyst Vijay Rakesh, who has a neutral rating and a $111 price target on Texas Instruments, said Texas Instruments is providing a “first look” at the COVID-19 impact on chip companies with tailwinds going forward in PC and server sales and headwinds in the auto and industrial sectors.

That scenario confirms expectations that have been leading into earnings season with Intel Corp. US:INTC scheduled to report Thursday and Advanced Micro Devices Inc. US:AMD scheduled to report April 28.

But Rakesh said Texas Instruments could be gambling on its inventory build.

“With the magnitude of the rebound still unknown, we believe inventory build could be a [gross margin] and utilization overhang into a recovery if customer demand remains soft,” Rakesh said.

Of the 34 analysts who cover Texas Instruments, 12 have buy or overweight ratings, 19 have hold ratings, and three have sell ratings. Of those, 15 analysts lowered their price targets on the stock, and two raised theirs, resulting in an average target price of $119.11, according to FactSet data.

Other chip companies were performing better than Texas Instruments on Wednesday, however. The PHLX Semiconductor Index US:SOX was up 5.1%, while Texas Instruments was up 3%.

In comparison, the S&P 500 index US:SPX rose 2.2% Wednesday, while the tech-heavy Nasdaq Composite Index US:COMP gained 2.7%.

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