INVESTMENT THESIS
BUY-rated Vishay Intertechnology Inc. (NYSE: VSH) updated its outlook for 3Q20 on 10/14/20, signaling that results would be above the guidance issued early in August. The company now expects revenue of about $640 million, compared with initial midpoint guidance of $600 million.
The change in revenue, and particularly the change in gross margins and attendant operating leverage, could translate to about $0.03. Given Vishay’s unique position in the electronics and manufacturing value chain, the stronger outlook is also good news for a range of technology companies heading into third-quarter earnings season.
Vishay attributed the outperformance against internal expectations to stronger-than-expected demand from automotive customers and from the distribution channel, particularly in Asia. The rebound in automotive demand is consistent with signs of recovery in new vehicle purchases. We regard the distribution channel as a highly sensitive barometer of underlying demand: distributors would not be adding to inventories unless underlying customer demand supported the increase. Asian distribution, while sensitive to industrial and automotive demand, may be more tuned into consumer electronics and the traditional technology supply chain.
VSH has not participated in the technology-stock rally that has accompanied the broad-market selloff. Despite the encouraging guidance hike, the near-term outlook is likely to remain mixed. Nonetheless, we look for Vishay to build on annual and sequential top-line growth beginning in 3Q20 and to carry strength into 2021.
RECENT DEVELOPMENTS
VSH declined 13% in 2018; the peer group dropped 4%.
On 10/14/20 after the market close, Vishay updated its outlook for the third quarter of 2020. Vishay in August issued revenue guidance of $580-$620 million, or $600 million at the midpoint; the prereporting consensus had been $610 million.
The new guidance assumes that Vishay will grow sales 2% year-over-year. Prior to the just concluded quarter, Vishay last posted a positive annual revenue comparison in 1Q19. And while 3Q20 revenue is finally in a positive annual trend, the guidance still assumes revenue below the third-quarter peak of $781 million in 3Q18.
Vishay attributed the improving revenue trend to stronger-than-expected demand from automotive customers and from the distribution channel, particularly in Asia. Vishay derives
65%-70% of revenue from industrial and automotive combined, with roughly equal contributions from both.
Although many industries have been dominated by the COVID-19 pandemic, Vishay and fellow technology industry participants have been dealing with multiyear challenges that impacted their top lines well before the pandemic hit. These include tariffs and the trade war, and the inclusion of several Chinese OEMs on the U.S. government’s entities list; a saturated smartphone market, with consumers seemingly willing to wait for better technology to stimulate widespread phone upgrades.
Vishay sells less than half of its production directly to OEMs and their contract manufacturing partners, and more than half into distribution in the Americas, Europe, and Asia. As a group, distributors are highly sensitive to demand shifts, and may respond aggressively to perceived final demand weakness by sharply curtailing their inventories. Book-to-bill at distribution, which was weak in 2019 before briefly bouncing higher in 1Q20, fell to 0.75 in 2Q20. Book-to-bill among OEMs and the EMS partners was a healthier 0.93 in the second quarter.
Automotive unit sales in the U.S. had been slipping off peak levels prior to the pandemic, which caused a massive temporary collapse in demand. However, consumer visits to automotive showrooms, both virtual and physical, have begun to pick up. Vehicle sales show signs of recovery, aided by generous incentives. The pattern has been somewhat similar in Europe. Vishay derives only about one-quarter of revenue from sales to U.S. customers and distributors; sales into Europe and Asia each exceed one-third of sales. Vishay’s most important automotive customers are in Europe.
In addition to hiking its top-line guidance, Vishay is now forecasting a non-GAAP gross margin of 23.6%, +/- 20 basis points; its initial adjusted GM guidance was 22.8%, +/- 70 basis points. The change in revenue, and particularly the change in gross margins and attendant operating leverage, could translate to $0.02-$0.04 in additional non-GAAP EPS for Vishay in 3Q20. Although the company’s highest gross margins in recent quarters have been in specialty markets such as Opto discrete semiconductors, over the longer term Vishay has derived its highest gross margins in passive categories, including inductors, resistors, and capacitors. Gross margins in these categories in 2Q20 were on average down 50-60 basis points from 2Q19. We expect 3Q20 GMs in passives to show signs of recovery, with further margin improvement in 2021.
In terms of demand trends across Vishay’s end markets, smartphones may be positioned for their strongest cycle in years, thanks to the step-change offered by 5G technology. The compute market is surging, reflecting rising data traffic and growing demand from edge devices such as PCs to the cloud data center and to telco core networks. Consumer device, compute, telecom and power supplies collectively represent up to one-quarter of Vishay’s revenue.
The outlooks for defense-aerospace and medical are mixed. While A/D demand reflects increased content per application, defense sales may be sidetracked as governments seek to pay the heavy bills from the pandemic. The pandemic is driving medical demand, but may also be impacting demand for life-style applications such as advanced equipment for joint replacement surgery.
On balance, and given signs of recovery in industrial and automotive, we believe that Vishay is well positioned to participate in recovery in most of its end markets. We are particularly encouraged by signs of rising demand from the distribution
channel, which has proven to be highly sensitive to final demand trends. Given Vishay’s unique position in the electronics and manufacturing value chain, the stronger outlook is also good news for a range of technology companies heading into third-quarter earnings season.
EARNINGS & GROWTH ANALYSIS
The GAAP gross margin slipped to 22% in 2Q20 from 24.0% in 1Q20 and 25.5%.
Non-GAAP EPS totaled $0.18, down 50% year-over-year from $0.36 in 2Q19 and down $0.03. Non-GAAP EPS easily topped the $0.08 consensus estimate. Vishay provides directional rather than explicit guidance, which pointed to non-GAAP EPS of $0.08-$0.12.
For 3Q20, Vishay has revised its revenue guidance to $640 million, which would be up 2% annually. It also projects a gross margin of 23.6%, +/- 20 basis points.
FINANCIAL STRENGTH & DIVIDEND
During 2018, Vishay repatriated $881 million in cash. Vishay used $724 million net (after-tax) of repatriated cash primarily to reduce debt. As of midyear 2020, the company had completed its cash repatriation program.
Paid down intercompany debts; and paid $376 million to repurchase $249 million principal amount of converts due 2040-2042. Across 2018, Vishay reduced the amount of outstanding converts due 2040-2042 to $37 million from $575 million. The paydown of convertible debt has favorably impacted tax rates.
Net cash was $319 million at midyear 2020.
Vishay opportunistically repurchases its stock. Vishay adjusts its dividend policy in May, but did not change its dividend rate in May 2020. In May 2018, Vishay raised its quarterly dividend by 26% to $0.085 per share, or $0.34 annually. In December 2017, it raised its quarterly dividend by 8% to $0.0675 per share, or $0.27 annually.
MANAGEMENT & RISKS
CEO Gerald Paul has served as chief executive officer since 2004. Lori Lipcaman, who joined Vishay in 1989, became CFO in August 2011. Founder Felix Zandman passed away in June 2011. Dr. Zandman was succeeded by his son, Mark Zandman, as executive chairman and chief business development officer. Also in August 2011, Vishay named John Vandoorn as CTO. All Vishay top executives are longtime employees of the company.
The Capella deal represents a fabless IC business, which is not core to Vishay’s business model based on discrete semiconductors and passive components. However, the deal is financially sound, should be beneficial to sales and margins, and makes strategic sense.
Despite the diversity of its customer base, Vishay is at risk from its reliance on a few industry niches that represent the bulk of sales. Those niches are broad and deep – most notably mobile devices, PCs, networking, consumer electronics, industrial and automotive – and no single OEM customer represents more than 5% of revenue. The deceleration in global economic activity, which initially had a more severe impact on consumer spending, now appears to be having a deeper impact on traditional industrial customers. We think that Vishay’s ongoing efforts to diversify and expand its customer base, particularly on the industrial side, should mitigate these effects over time.
COMPANY DESCRIPTION
And key discrete semiconductors include diodes, MOSFETs, and opto-electronics.
Significant end markets include mobile devices, network infrastructure, enterprise networks, computing, industrial and automotive. In July 2010, Vishay spun off its strain gauge and measurement business into Vishay Precision Group (NYSE: VPG).
VALUATION
Our peer-indicated value for VSH is in the low $30s, in a now rising trend given VSH’s year-to-date lag versus peers.
On October 16 at midday, BUY-rated VSH traded at $17.85, down $0.15.
